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The State Treasurer’s
Annual Report
To The People of North Carolina
North Carolina
Department of State Treasurer
Fiscal Year 1998-99
325 North Salisbury Street
Raleigh, North Carolina 27603-1385
The Honorable James B. Hunt, Jr.
Governor of North Carolina
Members of the General Assembly
The People of North Carolina
Sir, Ladies and Gentlemen:
In keeping with past practice and requirements of law, this annual report of the Treasurer provides a
full array of quantitative data and explanatory comments on the operations and responsibilities of the
Department of State Treasurer.
These activities could not have been accomplished without the dedication of the many men and women
who have served the Department so diligently for so many years. We are proud of them and their work, and,
we appreciate what they do on behalf of North Carolina’s some 7.3 million residents.
North Carolina has made good government a habit over the years and we are recognized nationally for
our record of prudence and accountability in public finance. We are now in the midst of the greatest era of
prosperity North Carolina has ever enjoyed. Revenues have never been higher. And yet our leaders may be-come
needlessly frustrated because there isn’t enough money to do what is wanted and what often is being
promised for our people. For example, we are being asked to spend billions of dollars in the near future to
repair our University infrastructure, to replace aging bridges and rebuild our highways, to replace aging
schools and to meet other pressing needs ¾ including rebuilding rural North Carolina.
There is no question that we can afford to do these things — if we have the mindset to do them. We are
in a much better position financially to meet these needs now than we were in 1949 when Governor Kerr
Scott proposed a $200 million road bond building issue. That proposed debt exceeded the State’s annual
budget at that time but those new farm-to-market roads proved to be a source of great economic strength for
our future. The question that we face now is this: Do we have the will to do those things that represent wor-thy
and productive investments ¾ and to rank them in priority order? The history of responsible gover n-ment
is on the side of those who want a responsive and progressive State government.
Serving as the peoples’ Treasurer is an honor to be cherished.
Sincerely,
Harlan E. Boyles
State Treasurer
2
Table of Contents
LETTER OF TRANSMITTAL ............................................................................................................................................... 1
TABLE OF CONTENTS.......................................................................................................................................................... 2
STATE TREASURER
Table of Organization .......................................................................................................................................................... 4
In Perspective....................................................................................................................................................................... 5
INVESTMENT AND BANKING DIVISION
Operational Highlights........................................................................................................................................................ 9
Banking Operations
Serving as the State's Banker......................................................................................................................................... 10
Receiving State Moneys .................................................................................................................................................. 10
Deposit of State Funds Flow Chart ................................................................................................................................ 11
Routing of State Warrants (Checks) for Payment Flow Chart....................................................................................... 11
Disbursing State Moneys................................................................................................................................................ 12
Specialized Banking Services.......................................................................................................................................... 12
Investment Transactions Processing......................................................................................................................... 12
Collateralization of Public Deposits ........................................................................................................................... 12
Electronic Funds Transfers ....................................................................................................................................... 13
State Treasurer's Electronic Payments System (STEPS) ......................................................................................... 13
Payment of State's Debt............................................................................................................................................. 13
Bank Account Reconciliation ..................................................................................................................................... 13
Bank Account Analysis .............................................................................................................................................. 13
Cash Flow Calculations ............................................................................................................................................. 13
Investment Management
Serving as the State's Chief Investment Officer............................................................................................................. 14
General Investment Objectives................................................................................................................................. 14
Operating Policy......................................................................................................................................................... 14
The State Treasurer’s Investment Pool........................................................................................................................... 15
Cash Management Program ........................................................................................................................................... 16
Short-term Investment Portfolio ............................................................................................................................... 17
Bond Proceeds Portfolio ............................................................................................................................................. 19
Trust Funds Investment Program .................................................................................................................................. 19
Equity Investment Portfolio ...................................................................................................................................... 20
Long-term Investment Portfolio ................................................................................................................................ 22
Real Estate Investment Portfolio ............................................................................................................................... 24
Venture Capital Investment Portfolio....................................................................................................................... 26
Supplemental Income Results......................................................................................................................................... 28
STATE AND LOCAL GOVERNMENT FINANCE DIVISION
Operational Highlights........................................................................................................................................................ 29
The State of Tax-Exempt Financing ................................................................................................................................... 30
The Basic Functions
Debt Management........................................................................................................................................................... 30
Fiscal Management......................................................................................................................................................... 35
Significant Accomplishments
Debt Management........................................................................................................................................................... 35
North Carolina General Obligation Bonds................................................................................................................. 35
Installment and Lease Purchase Agreements ........................................................................................................... 36
Revenue Bonds........................................................................................................................................................... 36
North Carolina Medical Care Commission Bonds..................................................................................................... 36
North Carolina Housing Finance Agency .................................................................................................................. 36
Industrial Revenue Bonds ......................................................................................................................................... 36
Volume Cap Allocation............................................................................................................................................... 36
"Triple-A" General Obligation Bond Ratings............................................................................................................. 37
North Carolina Educational Facilities Finance Agency............................................................................................ 37
North Carolina Clean Water Revolving Loan and Grant Funds .............................................................................. 38
Fiscal Management......................................................................................................................................................... 38
Local Government Statistical Profiles Issued............................................................................................................ 38
The North Carolina Capital Management Trust....................................................................................................... 38
Review of Semi-annual Reports of Deposits and Investments.................................................................................. 38
Financial Section of Bond Offering Statements......................................................................................................... 39
Analysis of Official Pronouncements......................................................................................................................... 39
Instructional Support for Continuing Education Courses and Conferences............................................................ 39
Monitoring Compliance with “Yellow Book” Requirements...................................................................................... 39
Audit Manual for Governmental Auditors................................................................................................................. 39
Audit Review Process................................................................................................................................................. 40
Memoranda and Other Publications .......................................................................................................................... 40
State Treasurer's Governmental Accounting/Financial Management Awards Program......................................... 40
Monitoring Compliance with New Economic Development Laws............................................................................. 40
Arbitrage Requirements for State Bonds................................................................................................................... 41
Financial Reporting of Public School Expenditures.................................................................................................. 41
Municipal Electric Systems ....................................................................................................................................... 41
Monitoring Revenue Bond Compliance ...................................................................................................................... 41
Adherence to Continuing Disclosure Requirements of The Securities and Exchange Commission ........................ 41
3
White goods disposal tax................................................................................................................................................. 41
Projects in Progress
Internet Home Page ........................................................................................................................................................ 42
Changes in Public School Capital Outlay Finance ......................................................................................................... 42
Policies Manual Update .................................................................................................................................................. 42
Charter Schools .............................................................................................................................................................. 42
Year 2000 Disclosures..................................................................................................................................................... 42
Special Governmental Auditing Task Force.................................................................................................................... 43
Local Government Information Control System............................................................................................................. 43
The New Financial Reporting Model.............................................................................................................................. 43
Local Government Commission Expanded Oversight.................................................................................................... 43
North Carolina Educational Facilities Finance Agency Extended Scope ...................................................................... 43
Electronic Bidding........................................................................................................................................................... 44
RETIREMENT SYSTEMS DIVISION
Operational Highlights........................................................................................................................................................ 45
The Basic Functions............................................................................................................................................................. 46
General Administration .................................................................................................................................................. 46
Benefits Processing Section ............................................................................................................................................ 46
Accounting/Data Control Section.................................................................................................................................... 47
Retirees' Health Insurance........................................................................................................................................ 47
Direct Deposit Accounts/Address Changes................................................................................................................ 47
Batch Posting and Systems Transfers ....................................................................................................................... 47
Error Checking ........................................................................................................................................................... 47
Member Services Section ................................................................................................................................................ 47
Records Section................................................................................................................................................................ 48
Significant Accomplishments
Legislation ....................................................................................................................................................................... 48
Communications.............................................................................................................................................................. 49
Functional........................................................................................................................................................................ 49
The Retirement Systems and Trust Funds
Actuarial Valuation ......................................................................................................................................................... 51
Actuarial Assumptions .................................................................................................................................................... 51
Funding of the Systems................................................................................................................................................... 51
Funded Status ................................................................................................................................................................. 52
Funded Ratio of the Retirement Systems........................................................................................................................ 53
Teachers' and State Employees' Retirement System of North Carolina........................................................................ 54
Local Governmental Employees' Retirement System of North Carolina....................................................................... 55
Consolidated Judicial Retirement System of North Carolina ........................................................................................ 56
Teachers' and State Employees' Benefit Trust................................................................................................................ 57
Firemen's and Rescue Squad Workers' Pension Fund.................................................................................................... 58
Retirees' Health Premiums Fund................................................................................................................................... 59
Legislative Retirement Fund.......................................................................................................................................... 59
Legislative Retirement System....................................................................................................................................... 59
Disability Income Plan.................................................................................................................................................... 59
Public Employees' Social Security Agency ...................................................................................................................... 60
National Guard Pension Plan......................................................................................................................................... 60
Supplemental Retirement Income Plan of North Carolina ............................................................................................ 60
Registers of Deeds' Supplemental Pension Fund............................................................................................................ 61
ADMINISTRATIVE SERVICES DIVISION
Operational Highlights........................................................................................................................................................ 63
Departmental Services......................................................................................................................................................... 63
Departmental Accounting............................................................................................................................................... 63
Investment Accounting.............................................................................................................................................. 63
Retirement Accounting .............................................................................................................................................. 63
Other Accounting Functions ...................................................................................................................................... 63
Budgeting Operations................................................................................................................................................ 63
Technical Services...................................................................................................................................................... 63
Personnel Management................................................................................................................................................... 64
Information Systems....................................................................................................................................................... 64
Escheat and Unclaimed Property Program ......................................................................................................................... 66
What is an Escheat?........................................................................................................................................................ 66
Recovery of Unclaimed Property..................................................................................................................................... 66
Refunds to Rightful Owners............................................................................................................................................ 66
Remittance to the SEAA ................................................................................................................................................. 67
Recent Developments in Escheats/Unclaimed Property
Legislation.................................................................................................................................................................. 67
National Database ..................................................................................................................................................... 67
Escheat Fund Fact Sheet................................................................................................................................................ 68
FINANCIAL STATEMENTS — TABLE OF CONTENTS .................................................................................................. A-1
STATISTICAL TABLES — TABLE OF CONTENTS ......................................................................................................... A-23
THE INVESTMENT POOL OF THE DEPARTMENT OF STATE TREASURER.......................................................... B-1
4
North Carolina Department of State Treasurer
Table of Organization
Harlan E. Boyles
Treasurer
Joseph M. Sansom
Assistant to State Treasurer
Investment and State and Local Retirement Administrative
Banking Division Government Systems Division Services Division
C. Douglas Chappell Finance Division Jack W. Pruitt Charles R. Heatherly
Deputy Treasurer Robert M. High Deputy Treasurer Deputy Treasurer
and Director Deputy Treasurer and Director and Director
and Director
5
In Perspective
The public’s business is always an open issue.
Thus, it is in this context that we have come to use
this portion of the State Treasurer’s annual report to
address a few philosophical issues which we feel are
worthy of public attention and discussion. The is-sues
raised are from the perspective of the State
Treasurer as an ex-officio member of numerous
State boards and commissions; one who is in a
unique position not only to see issues internal to
government management and finance, but also to
observe the close interrelationship between public
sector management and private sector actions. The
objective is to speak with constructive purpose.
The Purpose of State Government
Within the bounds of the Constitution of North
Carolina, the role and purpose of State government
is determined by the General Assembly — by men
and women elected to represent those who pay taxes
and those who may benefit from State services. The
Assembly’s adoption of the biennial budget gives
meaning to the programs and services provided to
the people. The State budget does two other things:
it identifies the resources to be collected, in the form
of taxes and fees, and it sets the maximum expendi-tures
authorized for the departments and agencies
of State government. Under the Constitution, the
expenditures authorized cannot exceed the projected
resources.
In North Carolina, State government is the peo-ple’s
business. It must be actively managed, and it
must be given leadership and direction to remain
accountable and responsive to its stated mission.
The people get the kind of government they are
willing to accept.
The discussions that follow reflect the interde-pendence
of the people to be served and our State
government, and how their respective activities are
interactive — whether it is through shared leader-ship,
the exchange of operational techniques in
management, or in the use of private sector markets
to strengthen the State’s financial position. Many of
the challenges facing the people of North Carolina
today are also reflected in the issues confronting our
State government and its management. Change is
inevitable.
The Office of State Treasurer
An understanding of the duties of the Office of
State Treasurer is critically important. Here is why:
· The investment assets under the State Treas-urer’s
management now exceed $64 billion,
having increased by some $16 million each work
day during the last fiscal year; and,
· The North Carolina retirement systems for
teachers, judges and other State and local gov-ernment
employees have an active and retired
membership of almost 500,000 people who look
to the State Treasurer for prudent and responsi-ble
management of their entrusted funds; so
that upon retirement the promised benefits will
be available and forthcoming; and,
· The State’s Triple-A credit rating and the State
Treasurer’s assigned debt management respon-sibilities,
which involve more than $28 billion
owed by the State and the counties and cities of
North Carolina, require constant vigilance and
an aggressive oversight strategy; so that the
borrower’s ability to repay is guarded and for-ever
maintained. It’s not by accident that some
25% of the nation’s units of state and local gov-ernment
with the Triple-A credit rating are lo-cated
in North Carolina; and,
· In addition to the regularly assigned duties, the
State Treasurer serves on more State boards
and commissions than any other elected State
officer. Examples: the Council of State, the State
Board of Education, the Board of Community
Colleges and the North Carolina Global Trans-
Park Authority and Foundation. Also the Treas-urer
serves as Chairman and presiding officer
over the Local Government Commission, the
North Carolina Educational Facilities Finance
Agency, the State Banking Commission, the Tax
Review Board, the Teachers’ and State Employ-ees’
Retirement System, the Local Governmental
Employees’ Retirement System, the Consoli-dated
Judicial Retirement System, the North
Carolina Firemen’s and Rescue Squad Workers’
Pension Fund, and numerous other financing
and economic development agencies of State
government; and,
6
· The educational training and professional work
experience of the person holding the Office of
State Treasurer are equally important.
The officeholder’s perceived pledge and commit-ment?
· To preserve the integrity of the Office of State
Treasurer; and to be professional, fair, consis-tent,
and open and above reproach in the dis-charge
of all prescribed duties.
· As the late Edwin Gill once said, “In North
Carolina we have made a habit of good govern-ment.”
It’s the officeholder’s solemn duty to
maintain this cherished tradition.
At The Crossroads
It is now the year 2000 and we in North
Carolina are at the proverbial crossroads. Like pr e-vious
important milestones we’ve faced over these
many years, the current-day challenges are accom-panied
by consequential choices.
Not only have we just ended a tumultuous dec-ade,
but also the final year of what has been accu-rately
labeled “the American Century.” More
significantly, we have just ended the Millennium —
a thousand years unequalled in the entire history of
man and the phenomenal change that has occurred.
Naturally and fortunately, most of that change has
been good.
Consider, for a moment, the daily routine of our
distant ancestor there on the plains of Sarum as he
contemplated the end of the first one thousand years
of recorded history following the life of Jesus. He
and his family survived primarily from his efforts as
a hunter and gatherer because he had not yet
learned to cultivate the soil. All of the energy he
used came from his own muscles or those of a few
animals. He had not yet learned to communicate by
the written word because the printing press was an
idea not to be unlocked for another four hundred and
fifty years. Democracy, too, was yet an unborn con-cept.
The printing press, the airplane, electricity, the
steam engine, the automobile, penicillin and numer-ous
strides in modern medicine, the radio, then tele-vision
and the computer, all of these inventions are
achievements of the Millennium just ended, and
most of them of the Twentieth Century.
It has been said that it took from the beginning
of time until around the 17th Century for Man’s ac-cumulated
knowledge to double. With the aid of
technology, knowledge has doubled several times
since and now, scientists tell us, is doubling every
five years. This opportunity presents a unique chal-lenge
to us as stewards of the public trust. Will we
use this knowledge and the advantages it gives us
wisely?
North Carolina was not even a dot on a map one
thousand years go. At the end of the Nineteenth
Century, we were little more than a wilderness in
the process of being tamed, a primitive State with
fewer than two million people and a total annual
State budget of only $70 million. That’s less than
what it takes to run State government for one day
now.
As we have just experienced the end of one great
era of enlightenment and the dawn of another, we
find ourselves at a great crossroads in North
Carolina. There are so many important decisions to
be made, and our choice in each of these decisions
will dictate a very significant chain of events that
will impact our quality of life for many years to
come.
In my time, we have seen America become the
moral and economic leader of the world. We
achieved this greatness with hard work, thrift, dis-cipline
and a sense of values based on honesty, in-tegrity,
fairness and a respect for the rights and
well-being of other people.
North Carolina became strong and great during
this period as well. We grew a vibrant farm economy
and saw it diversify. We sold industry on the great
potential that existed within our borders and they
came, creating new jobs. It was not until 1960 that
North Carolina achieved its Triple-A credit rating,
which we have since maintained — with immeasur-able
value to our people.
However, America’s fortunes have changed. In
the span of just one decade, or maybe two, we have
watched with trepidation as our nation went from
being the financial leader of the world to the largest
debtor nation. Yet, in the eyes of some people, we
also may have lost our moral compass and our sense
of responsibility.
The transformation of State government must
begin with the budget. It may be too large and
growing too fast. The laxity with which we adopt
and manage the budget encourages inefficiency, in-vites
wasteful expenditures and fails to address the
urgent needs of our society in a timely and effective
manner. Public spending has increased in North
Carolina since the mid-1980s at the alarming rate of
well over $1 billion a year.
7
Tax Fairness
Of primary importance to us is a tax system that
is equitable, fair and reasonable. Citizens will toler-ate
an unfair tax system for so long, as our ancestors
clearly illustrated when they rebelled against the
King of England in 1776.
It was the business of taxes, historians say, that
led to the necessity of creating money, the profes-sions
of accounting and law, and a bureaucracy for
administering them.
Good taxes, Adam Smith wrote in his 1776 book,
Wealth of Nations, must meet four criteria. First
they should be based on an individual’s ability to
pay. Second, good taxes should be certain. Third
they should be convenient to collect and fourth, they
should be efficient and economical.
Even now there is considerable evidence that
our tax system in North Carolina is in need of a
major review and adjustment. When it takes more
paper to print the exemptions and exclusions from
the State tax code than it does to print the State
Constitution, there is reason for concern that special
interests have gone too far in gaining relief from
paying their fair share.
It is especially important that we also look at the
modern forms of commerce, particularly electronic
commerce which accounts for a rapidly accelerating
share of business, much of which is untaxed at the
present time. If we continue to depend upon retail
sales transactions to generate the bulk of our sales
tax revenue and ignore the huge growth in electronic
sales, it is inevitable that we will see a precipitous
decline in that important source of revenue.
The property tax is another source of revenue
that must be examined in terms of our changing
economy. Taxpayers have shown a reluctance in re-cent
years to increased property taxes, a trend
which will out of necessity force future leaders to
look more aggressively for alternative sources. The
question is what source and how much?
Public Debt
Our public debt in North Carolina, at both the
State and local levels, now exceeds $28 billion and is
increasing at the rate of some $1 billion and more a
year. It is not just the debt but the purpose of the
debt that should concern us. When we borrow money
and repay it over a period of 20 to 30 years to re-build
our infrastructure in long term improvements,
that is a good use of debt and will repay itself many
times over. However, when we borrow money to give
away in grants to other spending entities or to pur-chase
short term goods and services that are long
gone before the capital is repaid, that is an unwise
use of debt. We must remember that in the larger
sense, public debt is a transfer of liabilities from one
generation to the next. We should be certain before
we burden our children and grandchildren with debt
that it is for a good cause — that it represents an
investment for future generations.
Budgetary Process
Our State budget process is archaic and desper-ately
in need of a major overhaul. It is past time
that we consider a zero-based budget concept in
which agencies are required to justify their entire
programs each year as they submit new budgets.
The current procedure in which existing funding
levels are assumed sacrosanct tends to build in and
hide inefficient and wasteful programs which would
be exposed and replaced by closer scrutiny.
In 1991 the General Assembly authorized a
comprehensive examination of all State government
programs with an initiative called the Government
Performance Audit Commission (GPAC). Two years
later the Commission presented hundreds of recom-mendations
that it said could save the State nearly
$300 million annually. Only five of these recommen-dations
have since been adopted and only a small
fraction of the potential savings have been achieved.
Once a program has been established, it develops a
constituency that fights for its continuation even
after the program is no longer needed. Under a zero-based
budget, agencies would compete for the funds
available on the basis of the need for those programs
and according to funds then available.
Rainy Day Fund
Our recent experiences with the devastation
caused by Hurricane Floyd suggest that we ought to
consider increasing the size of the “Rainy Day
Fund,” our contingency fund for meeting unexpected
emergencies. It had been maintained at approxi-mately
a half billion dollars for several years but
was reduced by some 40 percent just before the flood
to pay for intangible tax refunds. Perhaps we should
gradually increase this fund to $1 billion so that we
will be better prepared to meet future emergencies.
In comparison to our annual budget of some $24 bil-lion,
a $1 billion “Rainy Day Fund” represents only a
8
four percent reserve which is entirely reasonable and prudent.
Infrastructure
The State’s infrastructure is in bad need of ma-jor
repair, in many areas. We need billions of dollars
for new schools and for repairing and renovating
existing but old school buildings. Our public univer-sities
project a need of some $6 billion in urgent
capital improvements. Our Highway Trust Fund is
short billions of dollars in relation to what is needed
to rebuild our public highways and bridges to a sat-isfactory
level. These are just the statewide infra-structure
needs that North Carolina faces in the
near future.
There are additional dollars in capital expendi-tures
needed at the county and city level in terms of
water treatment and sewerage facilities. We cannot
continue to ignore these needs much longer.
Conclusion
With the growth of our population there will be
increased demands for more and better services. All
State agencies are experiencing such demands and
at a time when resources are becoming limited as
the public demands greater accountability and is
less inclined to support huge increases in public
spending. These conflicting trends will insure that
public leaders in the future will have to work
smarter and more resourcefully than ever before.
They must insure that only the most essential pro-grams
survive and that even those will have to op-erate
efficiently and prudently.
It is more important now that our policy makers
examine every spending request very carefully to
make sure that it is for a good cause and that each
dollar of the public’s money spent generates at least
a dollar’s worth of value. Are we planning ahead for
the future we want; and if not now, when?
The State’s Major Issues-In-Waiting
In addition to the budget challenges we now face
there are a number of other equally important is-sues
that we may deem worthy of the serious atten-tion
of our present and future leaders. For example,
there is:
· the growing perception that our governments
have the solution to all our needs and wants;
· a State tax structure that is full of holes ¾
lacking in fairness and equity among the people;
· a State budget system that serves little value in
letting the people know how their tax dollars are
being spent, and why;
· the issue of pending law suits by low wealth
counties for public education ¾ an issue that
should rest with the General Assembly;
· the need for an overhaul of the budgeting system
for the public schools, and how the State’s dol-lars
are allocated and used;
· the overlapping of the roles and service respon-sibilities
of the State and the counties and cities;
· a higher education system that cries out for co-ordination
of programs among the 4-year cam-puses
and the community colleges;
· a multitude of issues surrounding the deregula-tion
of the electric utility industry;
· the excessive optimism regarding the moneys to
be received from the tobacco settlement, and the
prospect for reduced payments; and
· the need for early involvement by the General
Assembly in the rapidly developing plans for
mass transit, and the funding sources to be iden-tified
and made available.
9
Investment and Banking Division
The Investment and Banking Division’s func-tions
can be categorized into two major areas of re-sponsibility:
1. Serving as the “State’s Banker.”
2. Serving as the “State’s Chief Investment Of-ficer.”
The Division is organized into two sections in
order to carry out these constitutional and statutory
functions. They are the “Banking Operations Sec-tion”
and the “Investment Management Section.”
Organizationally, this enables the Division to
perform in an effective and efficient manner.
C. Douglas Chappell
Director
Investment Banking
Management Operations
Section Section
Cash Trust Funds Specialized Disbursing
Management Investment Bank Account
Program Program Accounting Services
Bank Account
Reconciliation
Operational Highlights
• Assets under management at June 30, 1999
amounted to approximately $65 billion.
• Assets of the Cash Management Program
totaled $9.5 billion (at book value) generat-ing
a cash return of 6.08%.
• Assets of the Trust Funds Investment Pro-gram
totaled almost $55.5 billion (at market
value) producing a total return of 10.74%.
• The Long-term Investment Portfolio (fixed-income
securities) held assets valued at
$23.9 billion and generated a total return of
1.06%. (Departmental Accounting Section
records reveal a realized income component
of 8.39%.)
• The Equity Investment Portfolio with assets
of $30.3 billion produced a total return of
19.71% for the fiscal year, while generating
an annualized total return of 24.65% during
the trailing 36 months.
• The value of securities pledged to the State
Treasurer to secure public deposits in
North Carolina financial institutions
totaled over $2.9 billion.
• Some 250,000 bank deposits, made by 775
depositing agency locations across the
State, were processed and accounted for.
• Some 22.9 million State warrants were
cleared (processed) during the year.
• Over 3 million disbursements (12% of all
disbursements) were made by electronic
funds transfer (EFT).
• In excess of $3.75 billion in pay/benefits
were paid to State employees and retirees
through “direct deposit.” This is 86% of all
eligible recipients.
• In excess of $4 billion in payments were
made electronically to local governmental
units.
10
Banking Operations
Serving as the State’s Banker
The General Assembly of North Carolina has
authorized a centralized system for managing the
flow of moneys collected and disbursed by all State
departments, agencies, institutions and universities
(entities). Rather than each of these entities having
an account with a commercial bank, they maintain
accounts with the State Treasurer. The State Treas-urer
in turn provides each entity the same service
that a commercial bank would normally provide.
This system assures that the State is the prime
beneficiary of the flow of its funds through the com-mercial
banking system in the course of conducting
State business. This banking function is provided
through the Division’s Banking Operations Section.
Receiving State Moneys
All revenues collected by a State entity on behalf
of the State must be deposited with the State Treas-urer
for credit to the entity’s budget code account.
For entities located in Raleigh near the Albemarle
Building, deposits are accepted by the Investment
and Banking Division’s “teller window.”
The Department of Revenue utilizes remittance
processing equipment for tax payments received by
check and prepares “cash letters” for presentment to
corresponding depository banks as arranged by the
State Treasurer’s Office. Additionally, the Depart-ment
of Revenue has established a system whereby
certain taxpayers owing large tax payments to the
State must remit the payments electronically for
credit to an established State Treasurer’s bank ac-count.
For entities located outside of Raleigh, the Divi-sion
has established correspondent depository rela-tionships
with various banks and savings
institutions in order for those entities to have a con-venient
location to make their deposits. During fis-cal
year 1998-99, the Division processed and
accounted for approximately 250,000 deposits made
by 775 different depositing entities. The majority of
the entities deposit into a single Raleigh cash con-centration
account maintained with one of the seven
banking institutions having a State-wide branch
network. This minimizes the number of bank ac-counts
needed and allows for the funds deposited to
be concentrated for use by the Investment Manage-ment
Section as soon as the moneys become “col-lected
funds.”
Some entities are not located near a cash con-centration
bank branch. In these situations, an ac-count
is established with a local community bank to
accept their deposits. Once notified of the deposit of
funds into one of the local depository accounts, the
Banking Operations Section initiates Automated
Clearing House (ACH) debits in order to consolidate
the funds into a central bank account. At fiscal year
end, there were 55 local depository relationships.
An automated deposit reporting system, opera-tional
since 1993, allows the 775 depositing entities
to report their deposits to the State Treasurer’s Of-fice
through an on-line system. The on-line system
operates through the State computer network and
provides the State Treasurer’s Office immediate no-tification
of the deposit of funds by the agencies.
Shown below and on the next page are charts
showing the categories of entities depositing with
the State Treasurer and the flow of funds collected.
Chart 1
Number of
Depositing Locations
By Category
Drivers License Offices 142
License Plate Agents 146
DENR Parks & Offices 74
Clerks of Court 100
Community Colleges (multiple) 67
DOT Stations 55
DHHS Hospitals & Facilities 30
Universities (multiple) 44
Agricultural Facilities 31
Historical Sites 10
Other 76
775
11
Deposit of State Funds Chart 2
Routing of State Warrants (Checks) for Payment Chart 3
Taxes, Fees, and Tuition Payments
State Other
Parks
Universities
Federal
Funds
Raleigh
Clearing Banks
Clerks of
Court
Drivers
License
Offices
License
Plate
Agents
Community
Colleges
Cash
Concentration
Banks
Community
Banks
Taxes
Investment &
Banking Division
Department
of Revenue
State Treasurer Raleigh Agencies
State
Agencies
Universities Community
Colleges
Local School
Systems
State Warrants
Payees (Recipients)
Financial Institutions
Federal Reserve Bank
State Treasurer
12
Disbursing State Moneys
North Carolina primarily utilizes a warrant
system to disburse funds. In order for a State entity
to disburse funds, it issues warrants (State checks)
against a disbursing account maintained with the
State Treasurer, made payable to an eligible payee.
The warrants bear the State Treasurer’s unique
ABA transit-routing number and are payable at par
through the Federal Reserve System. Warrants
issued by the various State entities are deposited by
the recipients into the commercial banking system
and are ultimately presented to the State
Treasurer’s Office for payment. The daily warrant
clearings are accepted from the Federal Reserve
Bank. The main advantage of the warrant system is
that the “banker’s float” and the earnings thereon,
are captured for the State.
The Division provides each entity a disbursing
account. This is similar to a commercial checking
account service provided by the banking community
for its customers. The Division verifies the validity
of warrants presented against each entity’s account
and does not pay those deemed invalid. Monthly
statements are rendered to each entity.
A major change is being implemented to replace
the system for processing warrant clearings. The
system, to be operational November 1, 1999, will
provide for all warrant clearings to be processed
through the Federal Reserve Bank (FRB) in Char-lotte.
This arrangement with the FRB, along with
the acquisition of an image storage/retrieval system,
will allow the various agencies to have access to im-ages
of their paid warrants. This access will be pro-vided
through the Internet, with appropriate levels
of security (relative to access) being implemented.
Through the approximately 700 disbursing
accounts, some 22.9 million warrants were processed
during the fiscal year. This was a 1% increase from
the prior year’s figure of 21.8 million. The largest
activity accounts included WIC Benefits, Income Tax
Refunds, Unemployment Benefits, Child Support
Payments and Social Services Entitlements. Activity
associated with maintenance of the accounts in-cluded
the processing of nearly 1,000 alleged for-geries
and approximately 10,200 stop payments.
On the bottom of the preceding page there is a
chart showing “the routing” of warrants (checks) as
they are presented to this office for payment. The
chart below shows the volume of warrants cleared
(paid).
Chart 4
Warrants Cleared
for Fiscal Year Ended June 30
In addition to the 22.9 million disbursements by
paper warrants, 3 million (12% of all disbursements)
were made by electronic funds transfer (EFT.)
Specialized Banking Services
Certain banking services provided by the Bank-ing
Operations Section are categorized as “special-ized”
and include investment transaction processing,
collateralization of public funds monitoring and
EFT.
Investment Transactions Processing — One
of the responsibilities of the Section is the comple-tion
of all investment transactions after they have
been entered into by the Investment Management
Section, which entails consummating the receipt and
delivery of securities traded versus payment. Asso-ciated
with this function is the timely collection of
all interest and the par value of all maturing securi-ties.
In order to take advantage of the modern con-cepts
of book-entry and central depositories, the
custodial functions for all eligible securities are per-formed
through contractual arrangements, by the
Bank of New York. The Bank of New York utilizes
the Depository Trust Company, the Participant
Trust Company and the Federal Reserve Bank book-entry
system. These arrangements enable the State
Treasurer to participate actively in the securities
lending market.
Collateralization of Public Deposits — A
significant responsibility of the Section is to monitor
the collateralization of public deposits in North
Carolina banks and savings institutions for both
State deposits and certain local governmental units.
21.0
21.5
22.0
22.5
23.0
23.5
Fiscal Year
Clearings
1997
21.8
1998
22.8
1999
22.9
13
Collateralization is required for deposits exceeding
any insurance coverage provided by the Federal
Deposit Insurance Corporation (FDIC).
At June 30, 1999, 58 depositories had pledged
securities with a total market value of over $2.9
billion to the State Treasurer through 26 different
escrow agents. Forty-seven of these depositories
utilize the “Pooling Method” of collateralizing public
deposits (deposits of their local governmental de-positors
are secured through the State Treasurer’s
Office). Of the total securities pledged, approxi-mately
13% were to secure State deposits. The Sec-tion
monitors the capital adequacy of the
institutions which are required to provide collater-alization.
Determining capital adequacy is a vital
component of the collateralization monitoring proc-ess.
Electronic Funds Transfers — The collection
and remittance of funds via electronic funds transfer
(EFT) plays a major role in the successful operation
of the Division. Methods of EFT utilized include wire
transfer, Automated Clearing House (ACH) credits,
and ACH debits. The Section funds the direct
deposit remittance of payroll and retirement ben e-fits
effected by the 10 State payroll centers and the
Retirement Systems Division. Over 330,000 people
receive their monthly pay/benefits through direct
deposit, amounting to more than $3.75 billion
annually. This represents a participation rate of
86% on a combined basis.
Other utilization of EFT includes: the collection
of federal funds from the Federal government via
wire transfer and ACH credit; the daily concentra-tion
of funds deposited in the 55 community banks
that are not a part of the branch cash concentration
system; the weekly collection of interest due on cer-tificates
of deposit and savings certificates via ACH
debits; and the initiation of vendor payments via
ACH credit on behalf of various State agencies.
The Department of Revenue operates its own
EFT program for the collection of certain taxes from
corporations and local governments. During FY
1998-99, $9.1 billion was collected through their
EFT program for deposit with the State Treasurer.
State Treasurer’s Electronic Payments Sys-tem
(STEPS) — The STEPS program is now avail-able
to all State agencies for remitting moneys to
local governmental units (STEPS-OUT) and for re-ceiving
certain moneys from local governmental
units (STEPS-IN). The system utilizes the ACH to
facilitate the transfers electronically, eliminating
the necessity of issuing and mailing checks. A PC
software program called “PC-STEPS” is utilized by
State agencies to initiate payments and collections
through the State Treasurer’s Office. STEPS offers
the local units the option of having their payments
deposited to or remitted from an account maintained
with the financial institution of their choice. A cash
management directive issued by the State Control-ler’s
Office requires that certain types of payments
to and from local units of government be remitted
through STEPS.
The use of STEPS-IN has been offered by the
Retirement Systems Division since 1992. A unit
desiring to remit its monthly retirement contribu-tion
payment simply makes a toll-free telephone call
to the State’s contracted data collection center to
authorize an ACH debit to be initiated against its
selected depository account. A local unit can also
authorize the payment using a personal computer.
STEPS allows the local unit the ability to control the
effective date of a payment, thereby providing as-surance
that the payment is not made earlier than
necessary, but is made timely in order to avoid any
penalties. During FY 1998-99, over $4 billion of
State-shared revenues was distributed, and over
$2.5 billion was collected through STEPS.
Payment of the State’s Debt — The State
Treasurer is charged with the responsibility of
making timely payment of principal and interest on
North Carolina’s general obligation debt (a function
vital to the maintenance of the State’s “AAA” credit
rating). The Division arranges to have “readily
available funds” in the hands of the paying-agent
banks on due dates via EFT. Through these
arrangements, the bondholders have access to their
money as promised; meanwhile, the funds are
invested for the benefit of the State until the last
possible moment.
Complete information as to amounts of principal
and interest due, by issue, is provided by the State
and Local Government Finance Division.
Bank Account Reconciliation — During the
year a separate unit was organized, consolidating
the reconciliation function of all bank accounts into
one unit. The unit reconciles, mostly on a daily ba-sis,
all deposit and disbursement transactions per-taining
to the various bank accounts.
Bank Account Analysis — The Banking Op-erations
Section monitors the service activity of the
seven cash concentration banks and the 55 commu-nity
banks, in order to ascertain and establish the
appropriate balance level to be maintained in each.
An established methodology for determining the ap-propriate
balance ensures that the uninvested por-tion
of the Treasurer’s cash balances maintained
with the depositories, to compensate for banking
services rendered, is kept at a minimum.
Cash Flow Calculations — All of the various
banking functions result in cash flows that affect the
bank balances making up the Treasurer’s total cash
position on a daily basis. This data is generated
daily by the Banking Operations Section and serves
as the base for the Division’s investment functions.
14
Investment Management
Serving as the State’s Chief Investment Officer
The State Treasurer administers the Cash
Management and Trust Funds Investment Pro-grams.
As such, the Treasurer is directed by statute
to “establish, maintain, administer, manage and op-erate”
investment programs for all funds on deposit,
pursuant to the applicable statutes. In so doing, the
Treasurer “shall have full power as a fiduciary” and
shall manage the investment programs so that the
assets “may be readily converted into cash as
needed.”
At June 30, 1999, total assets under manage-ment
were nearly $65 billion. This total represents
the aggregate assets of the several retirement sys-tems,
various other trust funds, and the General and
Highway Funds. In establishing the comprehensive
management program, the State Treasurer, utilizing
a professional investment staff, has developed an
investment strategy for each portfolio that recog-nizes
the guidelines of the governing General Stat-utes,
and provides diversification as appropriate for
the participants. Through these investment pr o-grams,
as modified from time to time, the
investment management staff strives to enhance the
performance of assets under the State Treasurer’s
control.
General Investment Objectives —
Cash Management Program:
To generate maximum income consistent with the
principles of safety and liquidity. Prudence in dis-charging
this fiduciary obligation requires that all
investments be reviewed continuously, so that op-portunities
in the secondary markets, to improve the
quality and/or the income stream, are not over-looked.
Trust Funds Investment Program:
To generate returns that match or exceed those of
the appropriate benchmarks on a three-year trailing
basis, thereby, assisting in maintaining actuarially
sound funding levels for the retirement systems as-sets
(the predominant participants), while main-taining
the necessary diversification.
Operating Policy —
In all transactions executed for either invest-ment
program managed by the State Treasurer, the
objective is to transact such business in the best in-terest
of the beneficial owners of the trusts’ assets.
Some of the business will be done with North
Carolina institutions or with institutions having an
office in this State, provided it can be done at no
disadvantage to the interest of said trusts’ assets.
Shown below is the percentage the Cash Man-agement
and Trust Funds Investment Programs
represent of total assets under management:
Chart 5
Total Assets
Under Management
as of June 30, 1999
Total Assets $64,882,000,000
Cash
Management
Program
14%
Trust Funds
Investment
Program
86%
15
The State Treasurer’s Investment Pool
Most investable assets in the custody of the
State Treasurer are held in the State Treasurer’s
Investment Pool. This investment pool is comprised
of five portfolios:
i A short-term fixed income portfolio that invests
in highly liquid money market instruments,
treasuries, agencies and some liquid short-term
corporate issues.
i A long-term fixed income portfolio that invests
in longer term, high quality corporates, as well
as treasuries, agencies and GNMA mortgage-backed
securities.
i An equity portfolio that invests in equity securi-ties
through fiduciary relationships with a num-ber
of experienced equity money managers.
i A real estate portfolio that invests in real estate
by purchasing shares of beneficial interests in
various fiduciary relationships.
i A venture capital portfolio that invests as a
limited partner in venture capital partnerships
managed by experienced venture capital firms.
The financial statements of the State Treasurer’s
Investment Pool are included in a separate report
bound within this document.
In addition, there is a Bond Proceeds pool of
some $701 million within the Cash Management
Program to hold and invest moneys subject to fed-eral
arbitrage regulations.
Investment objectives are realized for the inves-tor
funds through participation in multiple portfolios
when this is considered appropriate.
Management of the investments is separated
between the Cash Management Program and the
Trust Funds Investment Program. Cost of the total
investment program is shared in an equitable man-ner
among all portfolios administered by the State
Treasurer.
The next two charts show the State Treasurer’s
Investment Pool participating entities balances and
earnings at fiscal year end.
Chart 6
THE STATE TREASURER’S ASSETS UNDER MANAGEMENT
PARTICIPATING ENTITIES’ BALANCES BY TYPE AND SEGMENT
as of June 30, 1999
(Stated in $ millions)
Cash Management
Program Trust Funds Investment Program
STIF LTIF EIF REIF VCIF Eliminations* Total
Pool Assets
General Fund $2,749 $ 2,749
Highway Fund 1,065 1,065
Retirement Funds 101 $23,075 $30,324 $766 $76 54,342
Various Special Funds 3,149 1,225 4,374
Other 1,768 20 (137) 1,651
Total Pool Assets 8,832 24,320 30,324 766 76 (137) 64,181
Non Pool Assets
Bond Proceeds Fund 701 701
Assets Under Management $9,533 $24,320 $30,324 $766 $76 $(137) $64,882
*Amount of investment by other portfolios within “STIF” & “LTIF” and included in the assets of the appr o-priate
portfolio.
NOTE: Balances shown in this chart are at the Fund level as reported by the Departmental Accounting
Section.
16
Chart 7
THE STATE TREASURER’S ASSETS UNDER MANAGEMENT
PARTICIPATING ENTITIES’ EARNINGS BY TYPE AND SEGMENT
as of June 30, 1999
(Stated in $ millions)
Cash Management
Program Trust Funds Investment Program
STIF LTIF EIF REIF VCIF Eliminations* Total
Income on Pool Assets
General Fund* $253 $253
Highway Fund 55 55
Retirement Funds 12 $1,729 $1,065 $57 $ 9 2,872
Various Special Funds 189 89 278
Other 9 2 $(11)
Total income distributed
and distributable 518 1,820 1,065 57 9 (11) 3,458
Changes in undistributed
Income (1,521) 3,923 9 7 1 2,419
Total Income of Pool 518 299 4,988 66 16 (10) 5,877
Income on Non Pool Assets
Bond Proceeds Fund 35 35
Income on Assets Under
Management $553 $ 299 $4,988 $66 $16 $(10) $5,912
*Amount of earnings distributed to other portfolios from “STIF” & “LTIF” and included in the appropriate
portfolio earnings.
NOTE: Earnings shown in this chart are at the Fund level as reported by the Departmental Accounting
Section.
Cash Management Program
The Cash Management Program is comprised of
two portfolios:
i A short-term fixed income portfolio (the Short-
Term Investment Portfolio), and
i The bond-arbitrage related investment pool con-sisting
of the unexpended net proceeds of State
general obligation bond issues, (the Bond Pro-ceeds
Investment Pool).
The investments of the Cash Management Pro-gram
include primarily money market instruments
and short-to-intermediate-term treasuries and agen-cies.
All bank accounts of the State Treasurer are
included in portfolios of the Cash Management Pro-gram.
The Division tracks the flow of funds into and
out of the accounts of the State Treasurer on a daily
basis. From this is determined the amount of cash
which is needed for operations during the day and
the amount of cash available for investment that
day. Available cash is invested as authorized with
due regard to projected future cash needs.
The benchmark objective of the Cash Manage-ment
Program is for the year-to-date cash return to
match or exceed the average bond equivalent yield
for the auction of one-year Treasury bills on a trail-ing
three-year period. On this basis, the Cash Man-agement
Program generated a 6.08% return versus
the benchmark return of 5.34%.
Because the Treasurer’s cash balances are
ultimately subject to disbursement upon presenta-tion
of valid warrants, the primary considerations in
making investments are safety and liquidity; the
secondary consideration is income. The invested as-sets
of the Cash Management Program fluctuated
between $8.8 billion and $10.2 billion during the
fiscal year. Revenues from the Cash Management
Program were approximately $553 million in the
fiscal year ended June 30, 1999, again generating a
cash return of 6.08%. Of the earnings, over $307
million was for the General and Highway Funds.
17
Short-Term Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Short-Term Investment Portfolio (STIP)
Data as of June 30, 1999
Invested Assets: $8,654,047,000
Benchmark: Two-year constant maturity
Treasury Notes
Management: Internal
Inception: 1949
Chart 8
Distribution by Maturity Range as of June 30
0 — 1 years 15.17%
1 — 2 years 15.50%
2 — 3 years 12.56%
3 — 4 years 25.82%
4 — 5 years 23.97%
5 — 7 years 6.98%
100.00%
Chart 9
Invested Assets as of June 30
Chart 10
Realized Income for Fiscal Year Ended June 30
DESCRIPTION OF THE PORTFOLIO
The Short-Term Investment Portfolio is com-prised
of high quality money market investments
and U.S. Government securities. Created in 1949, it
serves as a cash management tool for funds required
to be or voluntarily placed on deposit with the State
Treasurer. The objective of the portfolio is to pr o-vide
as high a level of current income as is consis-tent
with safety of principal and sufficient liquidity
to meet the daily cash flow requirements. The major
participants in the portfolio are the General Fund,
Highway Funds, and the cash balances of other
trust portfolios managed by the State Treasurer.
The State Treasurer sets the broad investment
policy and utilizes the professional in-house staff of
the Investment and Banking Division to manage the
assets. The current investment method for this
portfolio is a laddering of maturities of securities
authorized in G.S. 147-69.1. This strategy means
that the assets are distributed fairly evenly over a
stated maturity range. The maturity range for the
Short-Term Investment Portfolio is from one day to
seven years. The laddering strategy allows for suffi-cient
liquidity for short-term cash needs, but allows
the advantage of investing out the yield curve.
Within this laddering strategy, there is an active
management style which takes advantages of oppor-tunities
in the marketplace.
The performance benchmark for the portfolio is
the two-year constant maturity U.S. Treasury note.
This benchmark correlates well with the average
maturity of the securities held in the portfolio.
The portfolio has grown in size during the past
fiscal year from $8.3 billion to $8.7 billion while net
income increased from $505 million to $518 million.
350
400
450
500
550
Fiscal Year
Income
1997
$467.4
1998
$504.8
1999
$517.7
Milllions of $
6.0
6.5
7.0
7.5
8.0
8.5
9.0
1997 1998 1999
$7.9 $8.3 $8.7
Fiscal Year
Assets
18
RISK PROFILE
The portfolio is subject to several forms of risks.
These include, but are not limited to, purchasing
power, default, reinvestment and market risks.
However, the portfolio is considered low risk because
of the high quality, highly liquid securities held.
The laddered structure also minimizes risk and
volatility. By maintaining this low risk approach,
participants enter and exit the portfolio on a dollar-in,
dollar-out basis.
Chart 11
Top Ten Largest Holdings as of June 30
Issuer Par Value % of STIP
USTN 5.750 11/30/02 250,000,000 2.88%
USTN 5.625 12/31/02 250,000,000 2.88%
USTN 5.500 01/31/03 250,000,000 2.88%
USTN 5.750 08/15/03 250,000,000 2.88%
USTN 4.250 11/15/03 250,000,000 2.88%
USTN 5.875 02/15/04 250,000,000 2.88%
USTN 4.750 02/15/04 250,000,000 2.88%
USTN 5.875 11/15/05 250,000,000 2.88%
USTN 5.625 02/15/06 250,000,000 2.88%
FHLM 5.000 01/15/04 250,000,000 2.88%
Total 2,500,000,000 28.80%
Chart 12
Net Cash Returns
for Fiscal Year Ended June 30
Chart 13
Two-Year US Treas. Note Yields in FY 98-99
PORTFOLIO CHARACTERISTICS
The portfolio at June 30, 1999 was comprised of
81.0% U.S. Treasury securities, 15.8% U.S. Govern-ment
agency securities, 1.8% in North Carolina Cer-tificates
of Deposit and 1.4% in Repurchase
Agreements. The portfolio contained 124 different
issues and had an average maturity of about 3.1
years. The portfolio’s average duration was 2.75
years with an average coupon of 5.61%. The average
weighted yield-to-maturity of the portfolio at June
30, 1999 was 5.83%.
PERFORMANCE SUMMARY
The portfolio had a net cash return for the fiscal
year of 6.16%. The return compares very favorably
against the benchmark two-year constant maturity
U.S. Treasury Note, which averaged 4.92% during
the past fiscal year. One reason for the difference in
returns is that some of the portfolio holdings were
earning at rates higher than current interest rates.
A large portion of the current portfolio holdings were
purchased when interest rates were higher than
they were during the past year. Thus, we are able to
continue earning at the higher rates of return.
In some years past, this situation has been re-versed
when portfolio returns were lower than the
interest rates during the particular fiscal year.
An additional factor which can affect perform-ance
is the amount of funds which are available for
investment. Depending on the level of interest rates
and the yield curve, cash flow can either add to or
subtract from the returns generated.
4.00
4.30
4.60
4.90
5.20
5.50
5.80
6/98 7/98 8/98 9/98 10/98 11/98 12/98 1/99 2/99 3/99 4/99 5/99 6/99
5.00
5.25
5.50
5.75
6.00
6.25
6.50
Fiscal Year
Cash Returns
1997
6.48%
1998
6.39%
1999
6.16%
19
Bond Proceeds Investment Pool
DESCRIPTION OF THE PORTFOLIO
The Bond Proceeds Investment Pool was estab-lished
in 1987, as a separate portfolio, in order to
comply with Internal Revenue Service (IRS) regula-tions
on bond arbitrage. Sterling Capital Manage-ment
serves as the managing agent for this portfolio.
In addition to asset management, they provide bond
arbitrage tracking and record keeping for the State
and Local Government Finance Division.
The objective of the portfolio is to provide maxi-mum
income within the parameters of the IRS
regulations on bond arbitrage.
RISK PROFILE
The portfolio’s risk is minimal due to the short-term
nature of the assets. Investment vehicles
authorized in G.S. 147-69.1 are employed by the in-vestment
manager to invest all cash in the portfolio
in excess of the amount required to meet current
needs, in such manner as to be “readily convertible
into cash” as needed.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the Bond Proceeds portfolio
was comprised of 14 separate bond issues with a
combined book value of approximately $701 million.
The average maturity and duration of the portfolio
was approximately eight days. The longest maturity
of any individual holding was 50 days. At June 30,
the portfolio was comprised of 65% repurchase
agreements, 25% commercial paper rated not less
than A1/P1 and 10% in discount notes.
PERFORMANCE SUMMARY
The portfolio generated earnings of over $35.4
million and produced a net cash return of 5.10% for
the fiscal year.
Trust Funds Investment Program
The Trust Funds Investment Program is com-prised
of four of the portfolios in the State Treas-urer’s
Investment Pool providing diversification as
follows:
i A long-term fixed income portfolio (the Long-
Term Investment Portfolio) that invests in
longer term, high quality corporates, as well as
treasuries, agencies and GNMA mortgage-backed
securities.
i An equity portfolio (the Equity Investment Port-folio)
that invests in equity securities through
trust relationships with a number of experienced
equity money managers.
i A real estate portfolio (the Real Estate Invest-ment
Portfolio) that invests in real estate by
purchasing shares of beneficial interest in vari-ous
fiduciary relationships.
i A venture capital portfolio (the Venture Capital
Investment Portfolio) that invests, as a limited
partner, in venture capital partnerships man-aged
by experienced venture capital firms.
The investments in the Trust Funds Investment
Program are primarily for the benefit of the long-term
reserves of the pension funds administered by
the Department. The two largest of the pension
funds are the Teachers’ and State Employees’ Re-tirement
System and the Local Governmental Em-ployees’
Retirement System. Of the trust funds
under management, 98% belong to the retirement
systems.
In addition to the assets of the various retire-ment
systems and funds, numerous other trust
funds are managed, including the North Carolina
Employee Disability Fund, the Escheat and Aban-doned
Property Fund, various educational trust
funds, the State Property Fire Insurance Fund, the
Insured Student Loan Program and the Wildlife En-dowment
Fund.
The benchmark objective for the Trust Funds
Investment Program is for the four portfolios which
make up the program to match or exceed their re-spective
benchmarks on a trailing three-year period.
This program generated a total return of 10.74%
during the past fiscal year.
SPECIFIC CONSTITUTIONAL PROTECTION
The retirement systems’ investment integrity is
held inviolate by Article V, Section 6.(2) of the North
Carolina Constitution, which pr ovides:
“Neither the General Assembly nor any
public officer, employee, or agency shall
use or authorize to be used any part of
the funds of the Teachers’ and State Em-ployees’
Retirement System or the Local
Governmental Employees’ Retirement
System for any purpose other than re-tirement
system benefits and purposes,
administrative expenses, and refunds;
except that retirement system funds may
be invested as authorized by law, subject
to the investment limitation that the
funds of the Teachers’ and State Employ-ees’
Retirement System and the Local
Governmental Employees’ Retirement
System shall not be applied, diverted,
loaned to, or used by the State, any State
agency, State officer, public officer, or
public employee.”
20
Equity Investment Portfolio
Performance Review
Fiscal Year Ended June 30,1999
EQUITY INVESTMENT PORTFOLIO (EIP)
Data as of June 30, 1999
Invested Assets: $30,324,069,000
Benchmark: Blended comprised of 63% S&P
500, 18% S&P 400, 9% S&P 600,
7.5% EAFE and 2.5% Emerging
Markets
Management: Nine firms are utilized for the
management of 25 separate eq-uity
portfolios
Inception: 1961
PORTFOLIO DESCRIPTION
The objective of the EIP is to provide long-term
growth of capital while observing the requirements
of applicable State law and the principles of prudent
investment management. The EIP is expected to
generate a “total return” which will equal or exceed
that of a blended benchmark over a trailing 36-
month time period. The blended benchmark will be
constructed to reflect the midpoint or “neutral
weightings” of various equity markets, encompass-ing
both domestic and international markets.
This portfolio represents approximately 55.9% of
the assets of the various North Carolina retirement
systems. These systems are “defined benefit plans”
and as such provide retirement benefits to retirees
based on formulas prescribed by law.
The diversification represented by this portfolio
provides positive benefits to the asset/liability mix
during periods of low to moderate inflation due to
the long duration of the asset class.
The EIP is constructed based on efficient fron-tier
models that develop mid points or neutral
weightings for various equity asset classes. These
neutral weightings are designed to show how the
portfolio can be constructed so that the best risk re-ward
scenario is obtained. The State Treasurer and
members of the Equity Investment Advisory Com-mittee
then determine if certain sectors of the equity
model should be over-weighted or under-weighted.
The model breaks the EIP into several components.
First, the total portfolio is allocated between domes-tic
equities and international equities. From there
the domestic component is divided between large-cap,
mid-cap and small-cap stocks. In the interna-tional
arena, assets are divided between developed
and emerging markets.
RISK PROFILE
Fiscal year 1999 saw the volatility of the equity
markets increase from previous years. Because of
the increased volatility and its potential impact on
the assets of the EIP, much data is collected and
analyzed that allows the State Treasurer to deter-mine
with greater accuracy the risk profile of the
portfolio. At June 30, 1999, the following risk statis-tics
were observed:
R-squared vs. Blended Benchmark 0.99
Standard Deviation of the EIP 16.76%
Standard Deviation of the Benchmark 16.80%
Beta of the EIP vs. Benchmark 0.99
Sharpe Ratio of the EIP 0.04
These risk characteristics indicate that the EIP
exhibits slightly less volatility than that of the
benchmark as evidenced by the standard deviation
and beta figures. The Sharpe ratio is a measure of
return per unit of risk. A negative number would
indicate that the return generated is not commensu-rate
with the risk being taken. A positive number
means that incremental return is being generated
over what the risk profile would suggest. The EIP
exhibits a Sharpe ratio of 0.04 which indicates that
the returns being generated are very acceptable
given the risk profile.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the EIP held the highest con-centration
of its assets in domestic large-cap securi-ties.
Allocations were made to other areas of the
global equity markets with the intent of diversifying
some of the risks associated with the large-cap sec-tor
of the market. Analysis of the correlations be-tween
different segments of the market suggests
that the correlations are below 1.0, supporting the
decision to allocate funds to these components.
The State Treasurer and the Equity Investment
Advisory Committee set the broad equity allocation
ranges and utilize external managers to carry out
their mandates. At June 30, the EIP employed nine
management firms that manage a total of 25 differ-ent
portfolios. Obviously, several of these firms
manage multiple portfolios.
21
Chart 14
Portfolio Characteristics
Diversification by Capitalization
as of June 30, 1999
Market Value $30,324,069,000
Chart 15
Name and market value
of the ten largest exposures
via participation in the various trusts
as of June 30, 1999
Microsoft 851,292,440
General Electric 779,697,770
IBM 495,111,125
Citigroup 477,649,562
Bristol Myers Squibb 457,478,590
Cisco 455,586,229
Intel 452,114,760
Walmart 445,756,467
American Int’l Group 433,770,421
MCI Worldcom 398,434,771
Chart 16
Total Return of EIP
vs. Blended Benchmark
The following table reflects the management
firms utilized, the amount of assets, the number of
portfolios, and the types of portfolios managed for
the EIP.
Total
Assets # of
Firm ($ in millions) Port. Type
Alliance $12,798 7 Passive Large
Capital Mgmt. Passive Mid
Passive Small
Active Large (2)
International
Emerging Mkt
BB&T 217 1 Active Large
First Citizens 1,959 1 Active Large
First Union 947 1 Active Large
Franklin Street 565 2 Opportunistic
Partners Active Small
NCM 142 1 Active Large
Capital Mgmt.
TradeStreet 2,986 2 Enhanced 500
Inv. Assoc. Enhanced 600
Wachovia 1,550 2 Active Large
Asset Mgmt. Active Small
Wellington 9,159 8 Active Large (2)
Mgmt. Co. Biotechnology
Active Mid
Active Small (2)
International
Emerging Mkt
Large-Cap
75.1%
EAFE
6.5%
Small-Cap
5.6%
Cash
1.3%
Mid-Cap
9.8%
Emerging
Markets
1.7%
19.7118.54
22.63 21.62
24.65 24.09
0
5
10
15
20
25
30
1-Yr. 2-Yr. 3-Yr.
EIP Blended Benchmark
22
PERFORMANCE SUMMARY
The EIP outperformed the blended benchmark
for fiscal year 1999, posting a 19.71% total return
versus 18.54% return for the benchmark. Over a
trailing three-year time period, the EIP generated a
24.65% return versus 24.09% for the benchmark,
thus achieving the stated investment objective. In
terms of what contributed to the out-performance of
the EIP, the answer can be found in the allocation of
the portfolio. This portfolio has remained over-weighted,
versus the benchmark, in domestic large-cap
stocks. This sector of the equity market pro-duced
the second best returns during the year and
has been the best performing area over the last
three years. While the portfolio has had exposure to
international markets, the allocation to this area
was below the normal target found in the equity al-location
model. Active managers added value in the
domestic large cap and EAFE market segments of
the portfolio while a passive exposure of 34% in the
domestic large-cap sector also served to boost re-turns.
We continue to believe that lower expectations
in relation to equity investment returns for the fore-seeable
future, are justified. The average annual-ized
total return of the S&P 500 (as representative
of the domestic equity market) during the past 30
years has been 13.2%, sharply lower than the 25%-
plus returns of the last few years.
Long-Term Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
LONG-TERM INVESTMENT PORTFOLIO (LTIP)
Data as of June 30, 1999
Invested Assets: $23,936,808,000
Benchmark: Merrill Lynch Blended Benchmark
Management: Internal
Inception: 1941
PORTFOLIO DESCRIPTION
The State Treasurer sets the broad investment
policy and utilizes the professional in-house staff of
the Investment Management Section to manage the
assets of this fixed income portfolio of securities. The
holdings in the LTIP consist of fixed rate U.S. Gov-ernment
obligations, corporate debt, federal agency
obligations, dollar-denominated sovereign debt and
GNMA modified pass-through securities.
The objective of the fund is to provide diversifi-cation
and positive benefits to the asset/ liability mix
during periods of disinflation or deflation, while
maximizing returns at a risk level commensurate
with the identified benchmark. The benchmark for
the LTIP is a blend of established Merrill Lynch in-dices.
The mix consists of 40% U. S. Government/
agency securities, 40% corporate obligations and
20% GNMA 30-year mortgage pools.
Chart 17
Asset Allocation by Quarter-End
Chart 18
Treasury Yield Changes
During Fiscal Year
0 5
10
15
20
25
30
35
40
45
1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
Corp. GNMA Trsy/Govt
4.30
4.50
4.70
4.90
5.10
5.30
5.50
5.70
5.90
6.10
Jun-98
Jul-98
Aug-98
Sep-98
Oct-98
Nov-98
Dec-98
Jan-99
Feb-99
Mar-99
Apr-99
May-99
Jun-99
30 Year 10 Year
23
This portfolio represents approximately 42.5% of
the assets of the various North Carolina retirement
systems and approximately $1.2 billion of other
trust funds. The retirement systems are “defined
benefit plans” and as such provide retirement ben e-fits
to retirees based on a formula pr escribed by law.
RISK PROFILE
The LTIP is exposed to several forms of risk. These
include, but are not limited to, purchasing power, de-fault,
reinvestment and market risk. Fixed income se-curities
are extremely sensitive to changes in market
interest rates. As a means of monitoring the LTIP price
sensitivity to changes in market interest rates, the
staff tracks statistical data in relation to the portfolio.
PORTFOLIO CHARACTERISTICS
The LTIP continues to be a high quality fixed in-come
portfolio with a diverse group of holdings. The
portfolio, at June 30, 1999, was comprised of 40.5%
corporate obligations, 39.6% U.S. Govt./Agency securi-ties,
19.7% GNMA’s and 0.2% cash. The portfolio con-sists
of 606 different issues, with an average coupon of
7.15%, and an average final maturity of 19.5 years.
Nearly two-thirds of the total portfolio consists of secu-rities
that are rated AAA.
PERFORMANCE SUMMARY
The Long Term Investment Portfolio outperformed
the Merrill Lynch blended benchmark for the second
straight year, outpacing it by two basis points for the
fiscal year. This is especially notable given the sharply
different market conditions from one fiscal year to the
next. The prior fiscal year was characterized by a
plummeting yield curve and a sharp rise in bond prices,
while this fiscal year saw the treasury yield curve
shifting back higher and prices falling.
In what has to go down as one of the most active
years for the Federal Open Market Committee, there
were four rate changes over the course of the fiscal
year. It began with consecutive 25 basis point federal
funds rate cuts in September, October, and November,
and ended in a widely anticipated 25 basis point rate
increase on the last day of the fiscal year. Yields on 30-
year U.S. Treasury bonds ended the year 35 basis
points higher, sending bond prices sharply lower. Ten-year
U.S. Treasury securities experienced a similar
decline in value, with yields rising 37 basis points.
Corporate securities underperformed other asset
classes due to spread widening. The rising rate envi-ronment
benefited high coupon GNMA’s over low cou-pon
pools due to declining prepayment risk.
The portfolio produced a total return of 1.06% for
the fiscal year, leading the 1.04% return of the Merrill
Lynch blended benchmark. On a trailing two year ba-sis,
the LTIP produced a return of 7.61% compared
with 7.57% for the benchmark. The strong relative per-formance
was attributable to the shorter duration
structure of the portfolio’s government and corporate
exposure.
Governmental Accounting Standards Board State-ment
No. 31 became effective for our reporting on July
1, 1997. The Statement requires that the investment
assets and income be reported at fair value and there-fore
the fixed income assets of the Long-term Invest-ment
Portfolio are managed on a “total return” basis.
Total return includes realized income and any appre-ciation
or depreciation reflecting fair market value.
The Departmental Accounting Section advises that the
realized income component was 8.39%.
We continue to expect lower returns from long-term
fixed income investments for the foreseeable fu-ture.
Chart 19
Top Five Corporate & Govt. Holdings
in LTIP as of June 30, 1999
Issuer Market Value
NationsBank (Bank of Amer.) 248,928,758
Ford Motor Co. (& Credit Co.) 247,099,610
Bristol Myers 235,641,030
Texaco 229,934,751
Johnson & Johnson 229,518,309
UST 8.125 8/15/19 729,971,584
UST 7.875 2/15/21 727,026,199
UST 8.50 2/15/20 719,855,521
UST 7.25 8/15/22 694,207,800
UST 8.75 11/15/08 636,069,368
Chart 20
Distribution by Quality Rating
as of June 30, 1999
AAA 64%
AA 19%
A 17%
Chart 21
Maturity Range Distribution
as of June 30, 1999
0 — 5 years 1%
5 —10 years 29%
10 —20 years 8%
20 —30 years 58%
30 + years 4%
Chart 22
Monthly Returns vs. Benchmark
For Fiscal Year ended June 30, 1999
LTIP Benchmark
July (0.19)% (0.15)%
August 1.95% 1.92%
September 3.30% 3.37%
October (1.06)% (1.27)%
November 1.08% 1.29%
December 0.50% 0.37%
January 0.80% 0.87%
February (3.20)% (3.51)%
March 0.34% 0.41%
April 0.24% 0.26%
May (1.63)% (1.59)%
June (0.91)% (0.76)%
24
Real Estate Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Data as of June 30, 1999
Invested Assets: $766,300,000
Benchmark: National Council of Real Estate
Investment Fiduciaries (NCREIF)
Management: Eight investment firms managing
15 separate trusts
Inception: 1984
PORTFOLIO DESCRIPTION
The objective of the Real Estate Investment
Portfolio (REIP) is to provide long-term growth of
capital while observing the requirements of applica-ble
State law and the principles of prudent invest-ment
management. The REIP is expected to
generate a “total return” which will equal or exceed
that of NCREIF over a trailing 36-month time pe-riod.
This portfolio represents approximately 1.5% of
the assets of the various North Carolina Retirement
Systems. Growth of capital will be accomplished by
investing and reinvesting a stable flow of current
income into the real estate asset class. Positive real
rates of return during periods of rising or high infla-tion,
along with a degree of additional diversifica-tion,
are the goals of this portfolio.
The REIP is constructed to offer both high cur-rent
income and price appreciation. The portfolio
has a varied mix of funds that it utilizes to accom-plish
this objective. Core portfolios are utilized to
provide the base returns for the REIP. It is expected
that these portfolios will generate income levels that
will grow as property rents are increased and offer
the opportunity for price appreciation as well. The
REIP also utilizes opportunistic funds which take
advantage of pricing anomalies in the market place.
These portfolios typically hold their investments for
shorter periods of time and incorporate the use of
moderate leverage to achieve higher rates of return.
RISK PROFILE
The REIP is utilized as a means of offering solid
returns in periods of higher inflation while possess-ing
a lower correlation to the fixed income and eq-uity
assets found in the total pension portfolio.
Within the REIP, the portfolio is balanced between
core holdings and opportunistic funds.
The core positions offer a stable cash flow com-ponent
while the opportunistic portfolios attempt to
capture significant price appreciation through fi-nancial
leverage, capital improvements, and other
forms of very active management.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the REIP held the highest
concentration of its assets in opportunistic real es-tate.
The portfolio held the next highest concentra-tion
in core real estate.
The State Treasurer sets the broad real estate
policy and utilizes professional external managers to
carry out the mandates. At June 30, the REIP em-ployed
eight management firms that currently man-age
15 different portfolios. Obviously, some of these
firms manage multiple portfolios for the REIP.
The following table reflects the management
firms utilized, the amount of assets, the number of
portfolios and the types of portfolios managed for the
REIP.
As of June 30, 1999
Total
Assets # of
Firm ($ in millions) Port. Type
Allegis $190.9 2 Participating-
Mortgage
Core
Cigna 78.4 1 Core
DLJ 25.0 1 Opportunistic
Lend Lease 104.1 3 Opportunistic
J.P. Morgan 92.0 1 Core
Sentinel 114.5 2 Multi-Family
Opportunistic
Wachovia 22.2 2 Development
Timber
Westbrook 98.8 3 Opportunistic
25
Chart 23
Portfolio Characteristics
Diversification by Real Estate Type
as of June 30, 1999
Market Value $766,300,000
PERFORMANCE SUMMARY
The REIP outperformed the NCREIF bench-mark
for Fiscal Year 1999, posting a 12.96% total
return versus a 12.50% return for the benchmark.
On a trailing three-year time period, the REIP has
outperformed the NCREIF by generating a 15.32%
total return versus 13.57% for the benchmark. In
terms of what contributed to the performance of the
REIP, strong performance by the opportunistic sec-tor
helped the total portfolio exceed its objective. The
total portfolio held a large position in the office
property sector. This has been a contributing factor
to the positive performance of the portfolio since this
property type has consistently outperformed the real
estate market in general. Retail was under-weighted
versus NCREIF. Given that retail pro-duced
the lowest returns in the benchmark, this al-location
decision was positive for the REIP. The
REIP had significant exposure in both the western
and eastern portion of the U.S. and this served to
enhance returns since these were the two best per-forming
geographic regions in the country.
Chart 24
Real Estate Investment Portfolio
Total Returns
as of June 30, 1999
12.9612.50
15.57
14.89 15.32
13.57
8
10
12
14
16
1-Yr. 2-Yrs. 3-Yrs.
REIP NCREIF
Participating
Mtg.
20.0%
Core
26.8%
Multi-Family
14.1%
Timber
2.8% Development
.1%
Opportunistic
29.2%
STIP
7.0%
26
Venture Capital Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Data of June 30, 1999
Invested Assets: $75,720,000
Benchmark: The S&P 500 Index is the
benchmark used for comparison
purposes
Management: Ten firms utilized for the man-agement
of 14 venture capital
and buyout portfolios
Inception: 1988
PORTFOLIO DESCRIPTION
The objective of the Venture Capital Investment
Portfolio (VCIP) is to provide, over a period of time
(seven-to-ten years), a source of potentially high re-alized
income for the retirement system assets. (The
1990 Short Session of the General Assembly
changed the governing statutes, which had re-stricted
these investments to the General and
Highway Funds, on a retroactive basis.) This portfo-lio
represents approximately .1% of the assets of the
various North Carolina Retirement Systems. The
risk is controlled by diversification in industry type,
stage of corporate development and geographic loca-tion.
The VCIP’s objective of generating high amounts
of realized income over a seven-to-ten year period
requires that the portfolio be constructed so that a
balance between stage of company development and
industry type is maintained. The portfolio uses a
combination of early stage, later stage and buyout
funds. The early stage funds take a longer period of
time to produce returns, but normally provide very
strong returns as a result of investments being made
in companies very early in their corporate life. To
provide returns in the interim, the portfolio invests
in later stage and buyout funds that will generally
contribute returns sooner than the early stage
funds. It is anticipated that these later stage funds
will sacrifice some long-term potential in return for
quicker recognition of gains. The portfolio also seeks
to diversify across industry sectors.
Given the long-term time horizon of these in-vestments,
sectors can fall in and out of favor during
an investment cycle, so diversification is important.
Finally, the portfolio seeks to diversify as to geo-graphic
location. There are several areas across the
country well-renowned for the success of venture
capital companies and the portfolio obviously wants
to participate. Also, the portfolio seeks to identify
those areas which may be on the verge of breaking
through in terms of successful venture capital per-formance,
such as the southeast United States.
Lastly, the portfolio has some exposure to interna-tional
venture capital and buyout activity. With
markets becoming more and more global, opportuni-ties
exist to reap substantial returns from overseas
investments.
RISK PROFILE
Venture capital investing is by its nature a
higher risk asset class. Investing in new companies
or new technologies can pose the risk of losing all of
the principal investment, yet at the same time the
potential for returns substantially higher than those
of other asset classes justifies exposure in the asset
class.
With the risk of the asset class acknowledged,
the portfolio is structured with certain risk controls
utilized. For example, efforts are made not to over-weight
any one particular industry sector or geo-graphic
location. Professional managers utilized for
this program are scrutinized to determine that ca-pabilities
are in place to identify good investments
leading to strong returns. Finally, investments are
balanced between stage of development in order to
achieve a consistent realized income stream, rather
than sporadic periods of high-income generation.
27
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the VCIP held most of its
partnership assets in vintage 1989 portfolios.
Nineteen eighty nine marked the first full year that
the pension fund began making venture capital in-vestments.
As time has progressed, the portfolio
continues to add new vintage year portfolios in order
to replace those partnerships which will soon termi-nate
as provided in the original contracts. The port-folio
also holds the highest percentage of its
partnership assets in early stage partnerships. In
theory, these partnerships should produce the high-est
returns. The portfolio has balanced the early
stage program with investments in later stage and
buyout funds.
Chart 25
Vintage Year
Diversification as of June 30, 1999
Market Value $75,720,000
Chart 26
Partnership Portfolio
by Stage of Development
as of June 30, 1999
Chart 27
Partnership Portfolio
By Location of Partnership
as of June 30, 1999
The VCIP has almost two-thirds of its invest-ments
committed to North Carolina partnerships.
While the return potential for these investments is
high, the portfolio has balanced this with a third of
the investments in funds located outside of the
State.
The State Treasurer sets the broad venture capi-tal
policy and utilizes external professional manag-ers
to carry out the mandates. At June 30, the VCIP
employed ten management firms that manage a to-tal
of 14 different portfolios. Obviously, several of
these firms manage multiple portfolios for the VCIP.
The following table reflects the management
firms utilized, the size of the assets, the number of
portfolios, and the types of portfolios managed for
the VCIP.
Total
Assets # of
Firm ($ in millions) Port. Type
Carolinas $ .08 1 Early Stage
Capital
DLJ Merchant 3.17 1 Buyout
Franklin- 2.46 1 Buyout
Fairview
HarbourVest 2.10 1 Later Stage
InterSouth 1.64 2 Early Stage
Kitty Hawk 1.40 2 Early Stage
Early
74%
Buyout
15%
Later
11%
N.C.
68%
Non-N.C.
32%
1989
1997 61%
15%
1986
11%
1994
6%
1993
5%
1988
2%
28
Southern Venture .19 1 Early Stage
Sprout Capital 6.42 2 Early Stage
Later Stage
The N.C. 15.97 2 Early Stage
Enterprise
Corp.
Venture First 3.71 1 Early Stage
PERFORMANCE SUMMARY
The VCIP recorded a total return of 26. 76% for
Fiscal Year 1999. This compares with 22.67% for
the S&P 500. Venture capital investments depend
quite heavily on a buoyant IPO market. Fiscal year
1999 saw the second highest level of distributions
since the portfolio’s inception in 1989. Several stock
distributions that were held by the portfolio appr e-ciated
significantly in value. These companies oper-ate
in the communications services industry and
this was a very strong performing sector during FY
99.
It is also important to note that the returns for
the VCIP include not only investments made in
1988, but investments made in 1997. Historically, it
takes about six years to begin to see solid perform-ance
of a venture capital partnership. By combining
partnerships that are relatively new (i.e. going
through the “J curve” effect) with those that have
been in existence for some time, the returns are
somewhat diluted.
Chart 28
Venture Capital Investment Portfolio
Total Return
as of June 30, 1999
Supplemental Income Results
In addition to the traditional sources of income
from the investment pool, there is supplemental in-come
resulting from further active management of
the investment assets. For the fiscal year ended
June 30, 1999, supplemental income amounted to
more than $23 million. This income was five times
the actual operating expenditures of the Investment
and Banking Division, which were $4,598,801. The
largest component of the supplemental income ef-forts
is securities lending, which has generated net
earnings of $120.5 million since its inception in
1979.
The securities lending component is adminis-tered
by The Bank of New York under stringent re-quirements
established by the State Treasurer. All
securities are collateralized at 102%, with the in-vestment
of cash collateral being limited to the same
securities which are authorized for investment by
the Short-term Investment Portfolio.
The Bank of New York provides 100% indemni-fication
to the State Treasurer in the case of bor-rower
default.
Shown below are the sources and monetary re-sults:
Chart 29
Participating Investment Portfolios
Source Short- Long-of
Income Term Term Totals
Securities
Lending $11,473,783 $11,391,840 $22,865,623
Fail Balance
Earnings 4,147 172,186 176,333
TOTALS: $11,477,930 $11,564,026 $23,041,956
26.76
22.67
19.6
26.35
16.42
29.06
8.46
19.21
0
5
10
15
20
25
30
1 - Y r . 2 - Y r . 3 - Y r . I T D
VCIP S & P 5 0 0
29
State and
Local Government
Finance Division
The State and Local Government Finance Divi-sion
is organized to provide the State Treasurer, the
Local Government Commission, the North Carolina
Solid Waste Management Capital Projects Financ-ing
Agency, and the North Carolina Educational Fa-cilities
Finance Agency with staff assistance in
fulfilling their respective statutory functions. The
Division is organized along functional lines into two
major groups of services: Debt Management and
Fiscal Management.
The Local Government Commission (LGC) ren-ders
assistance to local governments and public
authorities in North Carolina. The LGC, staffed by
the Department of State Treasurer, approves the
issuance of debt for all units of local government and
assists these units with fiscal management. The
Commission is composed of nine members: the State
Treasurer, the Secretary of State, the State Auditor,
the Secretary of Revenue, and five others by ap-pointment
(three by the Governor, one by the Gen-eral
Assembly upon the recommendation of the
President-Pro Tempore and one by the General As-sembly
upon the recommendation of the Speaker of
the House.) The State Treasurer serves as Chairman
and selects the Secretary of the Commission, who
heads the administrative staff serving the Commis-sion.
The North Carolina Solid Waste Management
Capital Projects Financing Agency provides a loan
fund for financing the capital expenses incurred in
implementing local and regional solid waste man-agement
programs. The Agency Board of Directors
consists of five members: the State Treasurer and
four others by appointment (two by the Governor
and two by the General Assembly upon the recom-mendation
of one each by the Speaker of the House
of Representatives and the President Pro Tempore of
the Senate). Administrative staff for the Agency is
provided by the Department of State Treasurer.
Private institutions of higher education receive
financing assistance through bonds issued by the
North Carolina Educational Facilities Finance
Agency. The Agency Board of Directors is composed
of seven members: the State Treasurer, the State
Auditor, and five others by appointment (three by
the Governor, one by the President of the Senate
and one by the Speaker of the House of Representa-tives).
The administrative staff for the Agency is
provided by the Department of State Treasurer.
The Division handles the sale and delivery of all
State and local debt and monitors the repayment of
State and local government debt.
Solid Waste
Management Capital
Projects Financing
Agency
Local Government Robert M. High
Commission Director
North Carolina
Educational
Facilities Finance
Agency
Debt Fiscal
Management Management
Operational Highlights
• Competitive tax-exempt general obligation
bonds for the State were sold totaling $450 mil-lion
for the third series of school bonds (ap-proved
by the voters of the State in November
1996), at a net interest cost 50 basis points be-low
the national Bond Buyer’s Index, resulting
in interest savings in excess of $26 million over
the life of these bonds. The State also sold
$25.905 million clean water refunding bonds,
which resulted in savings to 22 local govern-ments
in excess of $1.5 million over the life of
the loans made from the proceeds of the bonds
refunded.
• The State continued to retain its excellent
bond rating of “Triple-A,” one of only nine
states in the nation with this coveted rating
from all three national rating agencies.
• Competitive tax-exempt general obligation
bond sales for local governments exceeded
$815 million with rates averaging 70 basis
points under the national Bond Buyer’s Index,
which resulted in savings in excess of $43 mil-lion
over the life of these bonds.
• Bonds totaling over $191 million were ap-proved
and sold for the North Carolina Hous-ing
Finance Agency, thus increasing the
supply of affordable housing for North Caro-linians
of moderate and low income.
• Industrial revenue bonds were issued total-ing
over $146 million resulting in the creation
of 1,011 jobs and the saving of 922 jobs.
30
• The staff made instructional presentations
at approximately 40 continuing education
courses and conferences across the State.
• Informational memoranda on various top-ics
were prepared for units of government,
Certified Public Accountants, and elected offi-cials.
• Again this year, the staff prepared the Fis-cal
Summary of North Carolina Counties and
the Fiscal Summary of North Carolina Munici-palities
in cooperation with the North Caro-lina
Association of County Commissioners and
the North Carolina League of Municipalities,
respectively. The purpose of these publica-tions
is to provide comparative financial in-formation
to county and municipal officials for
their use in budgeting and in comparing their
own unit’s financial results to those of other
units.
• Fifty-five local governments received low
interest rate clean water revolving loans and
state bond loans totaling over $96 million for
the construction of water and sewer systems.
• Installment purchase contracts were sold
for over $436 million, typically for smaller pro-jects.
• Revenue bonds for over $433 million were
sold for local governments, mainly for hospi-tals,
airports and water and sewer projects.
• Over $1.1 billion in hospital revenue bonds
was sold for the North Carolina Medical Care
Commission.
• Over $66 million was provided to nonprofit
private institutions of higher education
through nine bond issues by the North Caro-lina
Educational Facilities Finance Agency.
• The staff reviewed single audit reports for
approximately 455 units of local government
because of the requirements of the Federal
and State Single Audit Acts. Approximately
255 yellow book audits were reviewed by the
staff.
• The tenth annual “State Treasurer’s Gov-ernmental
Accounting/Financial Management
Awards Program” was sponsored. Municipali-ties,
counties, boards of education, and miscel-laneous
districts and authorities are eligible to
receive awards. Winners were governmental
units demonstrating the most improvement in
accounting or financial management pro-grams,
systems, methods, and procedures.
The State of Tax-Exempt Financing
As one of the few remaining tax shelters, gov-ernmental
bonds continue to be an attractive means
of financing for local governments. Without tax-exempt
financing, the interest rates charged on bor-rowed
funds could increase from 1 to 3 percentage
points resulting in a 20 to 30 percent increase in the
cost of financing. Utility customers and taxpayers
would ultimately pay this increase.
Market conditions were favorable for tax-exempt
debt during the fiscal year. The Bond Buyer’s Index
of 20 General Obligation Bonds ranged from a low of
4.82% on October 1, 1998 to a high of 5.45% on June
24, 1999. During the fiscal year, many local gov-ernments
took advantage of the lower rates to re-fund
outstanding debt. This fiscal year, 16
competitive tax-exempt general obligation and 11
revenue bond refundings were completed for local
governments, which resulted in over $56 million of
savings to local government taxpayers.
The Basic Functions
Debt Management
The Division issues and monitors all State debt
secured by a pledge of the taxing power of the State.
After voter approval of a bond issue and with the
assistance of other State agencies, the Division de-termines
the cash needs, plans for the repayment of
debt (maturity schedules), and schedules bond sales
at the most appropriate time. An official statement
describing the bond issue and other required disclo-sures
about the State is prepared with the advice
and cooperation of bond counsel. Finally, the Divi-sion
handles the actual sale and delivery of the
bonds, maintains the State bond records and regis-ter
of bonds, and monitors the debt service pay-ments.
At June 30, 1999, the State had general
obligation bonds outstanding of $2.4 billion. (See
Tables 8 and 9.)
The Division also is responsible for the authori-zation
and sale of revenue bonds for the North
Carolina Medical Care Commission, the Municipal
Power Agencies, the North Carolina Educational
Facilities Finance Agency, the North Carolina
Housing Finance Agency, the North Carolina Solid
Waste Management Capital Projects Financing
Agency, and the North Carolina Industrial Facilities
and Pollution Control Financing Authority. Only the
specific revenues pledged in payment thereof secure
31
these bonds. The staff works with these agencies’
personnel in determining the feasibility and sched-uling
of the bond offering, in structuring the issue
and the underlying security documents, and in pr e-paring
the data that must be presented to the Local
Government Commission for its approval.
The Division assists the State Treasurer in rep-resenting
the State in all presentations to Moody’s
Investors Service, Inc.; Standard and Poor’s Corpo-ration;
and Fitch Investors Service, Inc., the three
national bond rating agencies used by the State and
local governmental units in North Carolina. The
State continues to have a “Triple-A” rating, the
highest rating attainable, from all three national
rating agencies. This favorable rating has enabled
the State to sell its bonds at an interest rate consid-erably
below the Bond Buyer’s Index, thereby pr o-viding
tremendous savings to North Carolina’s
taxpayers.
Another important function of the Division is the
approval, sale, and delivery of all North Carolina
local government bonds and notes. The Division staff
counsels and assists local governmental units in de-termining
the necessity of the project, the size of the
issue, and the most expedient form of financing. A
review is made of the debt management policies of
the unit, the effect of the financing on the tax rate,
and the unit’s compliance with The Local Govern-ment
Budget and Fiscal Control Act. Sale dates are
scheduled depending on the need for the money, the
anticipated interest rates, and the times when the
bonds can be sold with a minimum of competition.
The staff strives to resolve all problems and deter-mine
that all statutory requirements are met before
applications are presented to the Local Government
Commission for approval.
After approval is granted, the governmental unit
and its bond counsel assist the staff in gathering
and assembling information for an official state-ment,
which is mailed to a large group of investment
bankers nationwide. The general obligation bonds
are awarded through the competitive bid process on
the basis of lowest total net interest cost to the gov-ernmental
unit. After the sale, the staff delivers and
validates the definitive bonds and ensures that the
moneys are promptly transferred from the buying
brokers to the governmental unit.
In addition to bond sales, the staff assists the
units in selling certain short-term debt obligations.
These may be bond anticipation notes to provide in-terim
funding of projects until the definitive bonds
are sold, or they may be other notes secured by spe-cific
pledges of taxes, grants, or future revenues.
Authorization for short-term debt obligations also is
based upon Local Government Commission ap-proval.
Debt records are maintained for all units on
principal and interest payments coming due in the
current and future years. All debt service payments
are monitored through a system of monthly reports.
At June 30, 1999, authorized and unissued gen-eral
obligation bonds for local governments
amounted to over $1.7 billion; and general obligation
debt outstanding amounted to over $6.6 billion. (See
Table 8.) During the 1998-99 fiscal year, bonds and
notes were sold in the amount of $1,454,486,493.
(See Chart 30.) Of the $862,986,000 in general obli-gation
bonds marketed for local units, over $815
million were sold competitively at tax-exempt rates
averaging approximately 70 basis points below the
national average (according to the Bond Buyer’s In-dex).
Over the life of these bonds, the issuers are
expected to save in excess of $43 million in interest
costs. Such savings are a result, in part, of the Divi-sion’s
successful efforts in maintaining and upgrad-ing
the bond ratings of the State and local units and
in monitoring the fiscal soundness of the individual
local units.
The Division’s staff also assists in the sale of
revenue bonds, which must have the Commission’s
approval in order to be issued by municipalities,
joint municipal electric power agencies, and county
industrial facilities and pollution control financing
authorities. These bonds are secured only by specific
revenue pledged in payment of the bonds. (See
Charts 30 and 31.)
Another responsibility of the Division’s staff is
assisting units that desire to enter into agreements
to finance the lease or installment purchase of capi-tal
assets. Local Government Commission approval
is required when the contract or agreement extends
for five or more years; and obligates the unit to pay
sums of money to another, without regard to
whether the payee is a party to the contract; and
obligates the unit to the extent of $500,000 or a sum
equal to one tenth of one percent (1/10 of 1%) of the
appraised value of property subject to taxation by
the unit, whichever is less. Local Government Com-mission
approval also is required when the contract
or agreement involves the construction or repair of
fixtures or improvements on real property and it is
not exempted in G.S. 159-148(b).
Before approving such agreements, the Local
Government Commission must find that the pr o-posed
project is necessary and expedient, the pr o-posed
undertaking cannot be economically financed
by a bond issue, and the contract will not require an
excessive increase in taxes. During the fiscal year
ended June 30, 1999, the Local Government Com-mission
approved contracts or other agreements to-taling
over $437 million. (See Tables 6 and 7.)
32
The Division also serves as staff to the North
Carolina Educational Facilities Finance Agency, an
agency established by the General Assembly in 1986
and authorized to finance or refinance, construct,
provide, or acquire higher educational facilities. This
Agency affords private institutions of higher educa-tion
in the State a measure of assistance and an al-ternative
method for providing needed facilities and
structures.
Following initial contact from a col-lege/
university, the staff generally begins the proc-ess
of determining project feasibility and desirability
with a preliminary conference. Upon receipt of an
application, the financial capability and responsibil-ity
of the college/university is reviewed through ratio
and trend analysis. The staff presents the project
and its recommendations to the seven-member
North Carolina Educational Facilities Finance
Agency and subsequently to the Local Government
Commission for approval. (All debt issued by the
Agency also must be approved by the Local Govern-ment
Commission.)
Chart 30
Purposes For Which Local Governments
Sold Bonds and Notes
Fiscal Year 1998-99
Total
School Utilities Hospital Refunding Other No. Amount
G.O. Bonds
Counties ............................... $ 124,705,000 $ 7,053,000 $ 0 $ 88,530,000 $ 10,930,000 28 $ 231,218,000
Municipalities....................... 0 151,025,000 0 285,065,000 155,615,000 21 591,705,000
Districts and Authorities ...... 0 40,063,000 0 0 0 19 40,063,000
Total G.O. Bonds ............ 124,705,000 198,141,000 0 373,595,000 166,545,000 68 862,986,000
Revenue Bonds
Counties ............................... 0 17,489,000 183,900,000 85,620,000 7,500,000 6 294,509,000
Municipalities....................... 0 51,833,000 0 0 0 6 51,833,000
Districts and Authorities ...... 0 51,398,000 18,700,000 6,655,000 10,000,000 7 86,753,000
Total Revenue Bonds ...... 0 120,720,000 202,600,000 92,275,000 17,500,000 19 433,095,000
Special Obligation Bonds —
Solid Waste
Counties ............................... 0 2,800,000 0 0 0 1 2,800,000
Municipalities....................... 0 0 0 0 0 0 0
Total Special Obligation
Bonds ............................ 0 2,800,000 0 0 0 1 2,800,000
State Bond and Revolving Loans
Counties ............................... 0 14,931,786 0 0 0 10 14,931,786
Municipalities....................... 0 66,350,788 0 0 0 35 66,350,788
Districts................................ 0 14,963,419 0 0 0 10 14,963,419
Total State Bond and
Revolving Loans ............. 0 96,245,993 0 0 0 55 96,245,993
Notes
G.O. Bond Anticipation Notes 0 53,963,500 0 0 4,000,000 29 57,963,500
Revenue Notes...................... 0 1,396,000 0 0 0 1 1,396,000
Total............................... 0 55,359,500 0 0 4,000,000 30 59,359,500
Total Bonds and Notes.......... $ 124,705,000 $ 473,266,493 $ 202,600,000 $ 465,870,000 $ 188,045,000 173 $ 1,454,486,493
34
Chart 31
Debt Management Activities - State and Local (In Millions)
FY 1998-99 FY 1997-98 FY 1996-97
No. Amt. No. Amt. No. Amt.
Bonds Sold for State
G.O. Bonds (General Fund) ................................... 1 $ 450.0 1 $ 450.0 2 $ 645.0
G.O. Bonds (Highway Fund) .................................. 0 0 1 250.0 0 0.0
G.O. Bonds (Clean Water)..................................... 1 25.9 0 0.0 0 0.0
Total .............................................................. 2 475.9 2 700.0 2 645.0
Bonds and Notes Sold for Local Governmental Units:
G.O. Bonds.......................................................... 68 863.0 73 1,206.9 65 558.2
Revenue Bonds.................................................... 19 433.1 22 592.7 18 635.0
State Bond and Revolving Loans ............................ 55 96.2 22 39.0 16 29.8
Special Obligation Bonds — Solid Waste ................. 1 2.8 6 38.8 3 24.0
G.O. Notes .......................................................... 29 58.0 48 104.9 44 99.5
Revenue Notes..................................................... 1 1.4 4 7.4 1 3.0
Total .............................................................. 173 1,454.5 175 1,989.7 147 1,349.5
Installment/Lease Contracts Sold for Local Units: ...... 110 436.1 86 342.3 122 368.9
Revenue Bonds Sold for:
Medical Care Commission ..................................... 22 1,139.1 18 551.9 14 602.1
Housing Finance Agency....................................... 4 191.8 5 208.9 4 166.5
Power Agencies.................................................... 1 279.2 3 267.1 3 584.3
Industrial Facilities and Pollution Control
Financing Authorities ......................................... 29 146.1 44 179.9 26 165.0
Educational Facilities Finance Agency .................... 9 66.2 7 104.1 7 124.2
Total .............................................................. 65 1,822.4 77 1,311.9 54 1,642.1
Grand Total .......................................................... 350 $4,188.9 340 $4,343.9 325 $4,005.5
35
Fiscal Management
Another function of the Division involves moni-toring
certain fiscal and accounting standards pr e-scribed
for local governmental units by The Local
Government Budget and Fiscal Control Act. As a
part of its role in assisting local units and monitor-ing
their fiscal programs, the Division provides
guidance in following generally accepted accounting
principles. The Local Government Budget and Fiscal
Control Act requires each unit of local government
to have its accounts audited annually by a Certified
Public Accountant or by an accountant certified by
the Commission as qualified to audit local govern-ment
accounts. If a governmental unit is required to
have an audit performed in accordance with Gov-ernment
Auditing Standards, the auditor is required
to provide the unit and the Local Government Com-mission
with a copy of the audit firm’s most recent
peer review report prior to contracting for the audit.
Each local government is required to file a copy of its
annual audit report with the Division and submit all
invoices to the Division for approval. The Division
monitors the annual audit reports for compliance
with generally accepted accounting principles and
single audit disclosure requirements. Also, a de-tailed
analysis is made of the financial condition of
each unit. In analyzing a unit’s financial condition,
staff members look not only at financial ratios and
budgetary indicators, but also at possible trends
that may be early warning signs of potential finan-cial
difficulties. Problems or concerns are brought to
the attention of the governmental units and, if
problems persist or become more serious, unit visits
are made by staff members in order to provide
hands-on technical assistance.
In providing assistance to local governments,
units are counseled in accounting systems and in-ternal
controls, cash and investment management,
budget preparation, risk management, capital plan-ning,
and changes in laws and regulations. Staff
members also perform research and provide techni-cal
assistance to local governments with specific
questions in these areas. On-site assistance is fur-nished
to local governments with regard to financial
and accounting systems and management services.
Educational programs, in the form of seminars and
classes, also are provided in order to accomplish
these tasks. Staff members make presentations
throughout the year at various workshops sponsored
by the Institute of Government; the North Carolina
Government Finance Officers Association; the North
Carolina Association of County Finance Officers; the
Association of Government Accountants; the N.C.
Local Government Investment Association; and nu-merous
other county, municipal, and school organi-zations.
The Division has expanded its assistance role by
maintaining computerized databases of historical
information from local government audit reports,
city and county Annual Financial Information Re-ports,
and Reports of Deposits and Investments. The
information collected is used in a variety of ways to
automate operations and enhance the assistance
provided to local governments. The files also are
utilized in special projects that benefit the opera-tions
of the State. Upon request, data is provided to
such organizations as the U.S. Bureau of the Cen-sus,
the N.C. Department of Revenue, the General
Assembly, the N.C. League of Municipalities, the
Institute of Government, and the N.C. Association of
County Commissioners to assist these groups in
their activities.
Because of recent changes in the field of gov-ernmental
accounting and the enactment of the
Federal Single Audit Act and the State Single Audit
Act, continuing assistance is provided to the inde-pendent
auditors of local governments, particularly
in the area of professional education. Several mem-bers
of the staff serve on the Governmental Ac-counting
and Auditing Committee of the North
Carolina Association of Certified Public Accountants
(NCACPA). The staff helps prepare and instruct
several continuing professional education courses in
governmental accounting and auditing. These are
presented several times annually to independent
auditors through the auspices of the NCACPA. Staff
members provide additional assistance to indepen d-ent
auditors by researching their questions con-cerning
governmental accounting, auditing, and
budgeting, as well as North Carolina laws. In addi-tion,
all exposure drafts of the Governmental Ac-counting
Standards Board (GASB) are analyzed, and
the staff’s comments and recommendations on these
drafts are submitted to the GASB.
Significant Accomplishments
Debt Management
North Carolina General Obligation Bonds —
In 1998-99, the State sold the third series of the $1.8
billion school bonds (approved by the voters of the
State in November 1996) in the amount of $450 mil-lion
at a net interest cost of 4.6101%, 50 basis points
below the national Bond Buyer’s Index, resulting in
interest savings in excess of $26 million. The State
also sold $25.905 million clean water refunding
36
bonds in 1998-99 for the purpose of refunding the
State’s outstanding $24 million Clean Water Bonds,
Series 1994A. The proceeds of the 1994A Clean Wa-ter
Bonds have been loaned by the State to local
governmental units to pay costs of various projects.
The refunding resulted in savings to the 22 local
governmental units in excess of $1.5 million over the
life of these loans.
In November 1998, the voters of the State ap-proved
$800 million in clean water bonds for the
purpose of funding several programs to provide
loans and grants to units of local government to fi-nance
clean water projects and $200 million natural
gas bonds for providing financing for the construc-tion
of natural gas facilities to facilitate the expan-sion
of natural gas service to unserved areas of the
State. The State’s authorized and unissued general
obligation bonds at June 30, 1999 totaled $2.15 bil-lion.
(See Table 8.)
Installment and Lease Purchase Agreements —
The installment and lease purchase method of fi-nancing
continues to be used by local governments,
typicall

The State Treasurer’s
Annual Report
To The People of North Carolina
North Carolina
Department of State Treasurer
Fiscal Year 1998-99
325 North Salisbury Street
Raleigh, North Carolina 27603-1385
The Honorable James B. Hunt, Jr.
Governor of North Carolina
Members of the General Assembly
The People of North Carolina
Sir, Ladies and Gentlemen:
In keeping with past practice and requirements of law, this annual report of the Treasurer provides a
full array of quantitative data and explanatory comments on the operations and responsibilities of the
Department of State Treasurer.
These activities could not have been accomplished without the dedication of the many men and women
who have served the Department so diligently for so many years. We are proud of them and their work, and,
we appreciate what they do on behalf of North Carolina’s some 7.3 million residents.
North Carolina has made good government a habit over the years and we are recognized nationally for
our record of prudence and accountability in public finance. We are now in the midst of the greatest era of
prosperity North Carolina has ever enjoyed. Revenues have never been higher. And yet our leaders may be-come
needlessly frustrated because there isn’t enough money to do what is wanted and what often is being
promised for our people. For example, we are being asked to spend billions of dollars in the near future to
repair our University infrastructure, to replace aging bridges and rebuild our highways, to replace aging
schools and to meet other pressing needs ¾ including rebuilding rural North Carolina.
There is no question that we can afford to do these things — if we have the mindset to do them. We are
in a much better position financially to meet these needs now than we were in 1949 when Governor Kerr
Scott proposed a $200 million road bond building issue. That proposed debt exceeded the State’s annual
budget at that time but those new farm-to-market roads proved to be a source of great economic strength for
our future. The question that we face now is this: Do we have the will to do those things that represent wor-thy
and productive investments ¾ and to rank them in priority order? The history of responsible gover n-ment
is on the side of those who want a responsive and progressive State government.
Serving as the peoples’ Treasurer is an honor to be cherished.
Sincerely,
Harlan E. Boyles
State Treasurer
2
Table of Contents
LETTER OF TRANSMITTAL ............................................................................................................................................... 1
TABLE OF CONTENTS.......................................................................................................................................................... 2
STATE TREASURER
Table of Organization .......................................................................................................................................................... 4
In Perspective....................................................................................................................................................................... 5
INVESTMENT AND BANKING DIVISION
Operational Highlights........................................................................................................................................................ 9
Banking Operations
Serving as the State's Banker......................................................................................................................................... 10
Receiving State Moneys .................................................................................................................................................. 10
Deposit of State Funds Flow Chart ................................................................................................................................ 11
Routing of State Warrants (Checks) for Payment Flow Chart....................................................................................... 11
Disbursing State Moneys................................................................................................................................................ 12
Specialized Banking Services.......................................................................................................................................... 12
Investment Transactions Processing......................................................................................................................... 12
Collateralization of Public Deposits ........................................................................................................................... 12
Electronic Funds Transfers ....................................................................................................................................... 13
State Treasurer's Electronic Payments System (STEPS) ......................................................................................... 13
Payment of State's Debt............................................................................................................................................. 13
Bank Account Reconciliation ..................................................................................................................................... 13
Bank Account Analysis .............................................................................................................................................. 13
Cash Flow Calculations ............................................................................................................................................. 13
Investment Management
Serving as the State's Chief Investment Officer............................................................................................................. 14
General Investment Objectives................................................................................................................................. 14
Operating Policy......................................................................................................................................................... 14
The State Treasurer’s Investment Pool........................................................................................................................... 15
Cash Management Program ........................................................................................................................................... 16
Short-term Investment Portfolio ............................................................................................................................... 17
Bond Proceeds Portfolio ............................................................................................................................................. 19
Trust Funds Investment Program .................................................................................................................................. 19
Equity Investment Portfolio ...................................................................................................................................... 20
Long-term Investment Portfolio ................................................................................................................................ 22
Real Estate Investment Portfolio ............................................................................................................................... 24
Venture Capital Investment Portfolio....................................................................................................................... 26
Supplemental Income Results......................................................................................................................................... 28
STATE AND LOCAL GOVERNMENT FINANCE DIVISION
Operational Highlights........................................................................................................................................................ 29
The State of Tax-Exempt Financing ................................................................................................................................... 30
The Basic Functions
Debt Management........................................................................................................................................................... 30
Fiscal Management......................................................................................................................................................... 35
Significant Accomplishments
Debt Management........................................................................................................................................................... 35
North Carolina General Obligation Bonds................................................................................................................. 35
Installment and Lease Purchase Agreements ........................................................................................................... 36
Revenue Bonds........................................................................................................................................................... 36
North Carolina Medical Care Commission Bonds..................................................................................................... 36
North Carolina Housing Finance Agency .................................................................................................................. 36
Industrial Revenue Bonds ......................................................................................................................................... 36
Volume Cap Allocation............................................................................................................................................... 36
"Triple-A" General Obligation Bond Ratings............................................................................................................. 37
North Carolina Educational Facilities Finance Agency............................................................................................ 37
North Carolina Clean Water Revolving Loan and Grant Funds .............................................................................. 38
Fiscal Management......................................................................................................................................................... 38
Local Government Statistical Profiles Issued............................................................................................................ 38
The North Carolina Capital Management Trust....................................................................................................... 38
Review of Semi-annual Reports of Deposits and Investments.................................................................................. 38
Financial Section of Bond Offering Statements......................................................................................................... 39
Analysis of Official Pronouncements......................................................................................................................... 39
Instructional Support for Continuing Education Courses and Conferences............................................................ 39
Monitoring Compliance with “Yellow Book” Requirements...................................................................................... 39
Audit Manual for Governmental Auditors................................................................................................................. 39
Audit Review Process................................................................................................................................................. 40
Memoranda and Other Publications .......................................................................................................................... 40
State Treasurer's Governmental Accounting/Financial Management Awards Program......................................... 40
Monitoring Compliance with New Economic Development Laws............................................................................. 40
Arbitrage Requirements for State Bonds................................................................................................................... 41
Financial Reporting of Public School Expenditures.................................................................................................. 41
Municipal Electric Systems ....................................................................................................................................... 41
Monitoring Revenue Bond Compliance ...................................................................................................................... 41
Adherence to Continuing Disclosure Requirements of The Securities and Exchange Commission ........................ 41
3
White goods disposal tax................................................................................................................................................. 41
Projects in Progress
Internet Home Page ........................................................................................................................................................ 42
Changes in Public School Capital Outlay Finance ......................................................................................................... 42
Policies Manual Update .................................................................................................................................................. 42
Charter Schools .............................................................................................................................................................. 42
Year 2000 Disclosures..................................................................................................................................................... 42
Special Governmental Auditing Task Force.................................................................................................................... 43
Local Government Information Control System............................................................................................................. 43
The New Financial Reporting Model.............................................................................................................................. 43
Local Government Commission Expanded Oversight.................................................................................................... 43
North Carolina Educational Facilities Finance Agency Extended Scope ...................................................................... 43
Electronic Bidding........................................................................................................................................................... 44
RETIREMENT SYSTEMS DIVISION
Operational Highlights........................................................................................................................................................ 45
The Basic Functions............................................................................................................................................................. 46
General Administration .................................................................................................................................................. 46
Benefits Processing Section ............................................................................................................................................ 46
Accounting/Data Control Section.................................................................................................................................... 47
Retirees' Health Insurance........................................................................................................................................ 47
Direct Deposit Accounts/Address Changes................................................................................................................ 47
Batch Posting and Systems Transfers ....................................................................................................................... 47
Error Checking ........................................................................................................................................................... 47
Member Services Section ................................................................................................................................................ 47
Records Section................................................................................................................................................................ 48
Significant Accomplishments
Legislation ....................................................................................................................................................................... 48
Communications.............................................................................................................................................................. 49
Functional........................................................................................................................................................................ 49
The Retirement Systems and Trust Funds
Actuarial Valuation ......................................................................................................................................................... 51
Actuarial Assumptions .................................................................................................................................................... 51
Funding of the Systems................................................................................................................................................... 51
Funded Status ................................................................................................................................................................. 52
Funded Ratio of the Retirement Systems........................................................................................................................ 53
Teachers' and State Employees' Retirement System of North Carolina........................................................................ 54
Local Governmental Employees' Retirement System of North Carolina....................................................................... 55
Consolidated Judicial Retirement System of North Carolina ........................................................................................ 56
Teachers' and State Employees' Benefit Trust................................................................................................................ 57
Firemen's and Rescue Squad Workers' Pension Fund.................................................................................................... 58
Retirees' Health Premiums Fund................................................................................................................................... 59
Legislative Retirement Fund.......................................................................................................................................... 59
Legislative Retirement System....................................................................................................................................... 59
Disability Income Plan.................................................................................................................................................... 59
Public Employees' Social Security Agency ...................................................................................................................... 60
National Guard Pension Plan......................................................................................................................................... 60
Supplemental Retirement Income Plan of North Carolina ............................................................................................ 60
Registers of Deeds' Supplemental Pension Fund............................................................................................................ 61
ADMINISTRATIVE SERVICES DIVISION
Operational Highlights........................................................................................................................................................ 63
Departmental Services......................................................................................................................................................... 63
Departmental Accounting............................................................................................................................................... 63
Investment Accounting.............................................................................................................................................. 63
Retirement Accounting .............................................................................................................................................. 63
Other Accounting Functions ...................................................................................................................................... 63
Budgeting Operations................................................................................................................................................ 63
Technical Services...................................................................................................................................................... 63
Personnel Management................................................................................................................................................... 64
Information Systems....................................................................................................................................................... 64
Escheat and Unclaimed Property Program ......................................................................................................................... 66
What is an Escheat?........................................................................................................................................................ 66
Recovery of Unclaimed Property..................................................................................................................................... 66
Refunds to Rightful Owners............................................................................................................................................ 66
Remittance to the SEAA ................................................................................................................................................. 67
Recent Developments in Escheats/Unclaimed Property
Legislation.................................................................................................................................................................. 67
National Database ..................................................................................................................................................... 67
Escheat Fund Fact Sheet................................................................................................................................................ 68
FINANCIAL STATEMENTS — TABLE OF CONTENTS .................................................................................................. A-1
STATISTICAL TABLES — TABLE OF CONTENTS ......................................................................................................... A-23
THE INVESTMENT POOL OF THE DEPARTMENT OF STATE TREASURER.......................................................... B-1
4
North Carolina Department of State Treasurer
Table of Organization
Harlan E. Boyles
Treasurer
Joseph M. Sansom
Assistant to State Treasurer
Investment and State and Local Retirement Administrative
Banking Division Government Systems Division Services Division
C. Douglas Chappell Finance Division Jack W. Pruitt Charles R. Heatherly
Deputy Treasurer Robert M. High Deputy Treasurer Deputy Treasurer
and Director Deputy Treasurer and Director and Director
and Director
5
In Perspective
The public’s business is always an open issue.
Thus, it is in this context that we have come to use
this portion of the State Treasurer’s annual report to
address a few philosophical issues which we feel are
worthy of public attention and discussion. The is-sues
raised are from the perspective of the State
Treasurer as an ex-officio member of numerous
State boards and commissions; one who is in a
unique position not only to see issues internal to
government management and finance, but also to
observe the close interrelationship between public
sector management and private sector actions. The
objective is to speak with constructive purpose.
The Purpose of State Government
Within the bounds of the Constitution of North
Carolina, the role and purpose of State government
is determined by the General Assembly — by men
and women elected to represent those who pay taxes
and those who may benefit from State services. The
Assembly’s adoption of the biennial budget gives
meaning to the programs and services provided to
the people. The State budget does two other things:
it identifies the resources to be collected, in the form
of taxes and fees, and it sets the maximum expendi-tures
authorized for the departments and agencies
of State government. Under the Constitution, the
expenditures authorized cannot exceed the projected
resources.
In North Carolina, State government is the peo-ple’s
business. It must be actively managed, and it
must be given leadership and direction to remain
accountable and responsive to its stated mission.
The people get the kind of government they are
willing to accept.
The discussions that follow reflect the interde-pendence
of the people to be served and our State
government, and how their respective activities are
interactive — whether it is through shared leader-ship,
the exchange of operational techniques in
management, or in the use of private sector markets
to strengthen the State’s financial position. Many of
the challenges facing the people of North Carolina
today are also reflected in the issues confronting our
State government and its management. Change is
inevitable.
The Office of State Treasurer
An understanding of the duties of the Office of
State Treasurer is critically important. Here is why:
· The investment assets under the State Treas-urer’s
management now exceed $64 billion,
having increased by some $16 million each work
day during the last fiscal year; and,
· The North Carolina retirement systems for
teachers, judges and other State and local gov-ernment
employees have an active and retired
membership of almost 500,000 people who look
to the State Treasurer for prudent and responsi-ble
management of their entrusted funds; so
that upon retirement the promised benefits will
be available and forthcoming; and,
· The State’s Triple-A credit rating and the State
Treasurer’s assigned debt management respon-sibilities,
which involve more than $28 billion
owed by the State and the counties and cities of
North Carolina, require constant vigilance and
an aggressive oversight strategy; so that the
borrower’s ability to repay is guarded and for-ever
maintained. It’s not by accident that some
25% of the nation’s units of state and local gov-ernment
with the Triple-A credit rating are lo-cated
in North Carolina; and,
· In addition to the regularly assigned duties, the
State Treasurer serves on more State boards
and commissions than any other elected State
officer. Examples: the Council of State, the State
Board of Education, the Board of Community
Colleges and the North Carolina Global Trans-
Park Authority and Foundation. Also the Treas-urer
serves as Chairman and presiding officer
over the Local Government Commission, the
North Carolina Educational Facilities Finance
Agency, the State Banking Commission, the Tax
Review Board, the Teachers’ and State Employ-ees’
Retirement System, the Local Governmental
Employees’ Retirement System, the Consoli-dated
Judicial Retirement System, the North
Carolina Firemen’s and Rescue Squad Workers’
Pension Fund, and numerous other financing
and economic development agencies of State
government; and,
6
· The educational training and professional work
experience of the person holding the Office of
State Treasurer are equally important.
The officeholder’s perceived pledge and commit-ment?
· To preserve the integrity of the Office of State
Treasurer; and to be professional, fair, consis-tent,
and open and above reproach in the dis-charge
of all prescribed duties.
· As the late Edwin Gill once said, “In North
Carolina we have made a habit of good govern-ment.”
It’s the officeholder’s solemn duty to
maintain this cherished tradition.
At The Crossroads
It is now the year 2000 and we in North
Carolina are at the proverbial crossroads. Like pr e-vious
important milestones we’ve faced over these
many years, the current-day challenges are accom-panied
by consequential choices.
Not only have we just ended a tumultuous dec-ade,
but also the final year of what has been accu-rately
labeled “the American Century.” More
significantly, we have just ended the Millennium —
a thousand years unequalled in the entire history of
man and the phenomenal change that has occurred.
Naturally and fortunately, most of that change has
been good.
Consider, for a moment, the daily routine of our
distant ancestor there on the plains of Sarum as he
contemplated the end of the first one thousand years
of recorded history following the life of Jesus. He
and his family survived primarily from his efforts as
a hunter and gatherer because he had not yet
learned to cultivate the soil. All of the energy he
used came from his own muscles or those of a few
animals. He had not yet learned to communicate by
the written word because the printing press was an
idea not to be unlocked for another four hundred and
fifty years. Democracy, too, was yet an unborn con-cept.
The printing press, the airplane, electricity, the
steam engine, the automobile, penicillin and numer-ous
strides in modern medicine, the radio, then tele-vision
and the computer, all of these inventions are
achievements of the Millennium just ended, and
most of them of the Twentieth Century.
It has been said that it took from the beginning
of time until around the 17th Century for Man’s ac-cumulated
knowledge to double. With the aid of
technology, knowledge has doubled several times
since and now, scientists tell us, is doubling every
five years. This opportunity presents a unique chal-lenge
to us as stewards of the public trust. Will we
use this knowledge and the advantages it gives us
wisely?
North Carolina was not even a dot on a map one
thousand years go. At the end of the Nineteenth
Century, we were little more than a wilderness in
the process of being tamed, a primitive State with
fewer than two million people and a total annual
State budget of only $70 million. That’s less than
what it takes to run State government for one day
now.
As we have just experienced the end of one great
era of enlightenment and the dawn of another, we
find ourselves at a great crossroads in North
Carolina. There are so many important decisions to
be made, and our choice in each of these decisions
will dictate a very significant chain of events that
will impact our quality of life for many years to
come.
In my time, we have seen America become the
moral and economic leader of the world. We
achieved this greatness with hard work, thrift, dis-cipline
and a sense of values based on honesty, in-tegrity,
fairness and a respect for the rights and
well-being of other people.
North Carolina became strong and great during
this period as well. We grew a vibrant farm economy
and saw it diversify. We sold industry on the great
potential that existed within our borders and they
came, creating new jobs. It was not until 1960 that
North Carolina achieved its Triple-A credit rating,
which we have since maintained — with immeasur-able
value to our people.
However, America’s fortunes have changed. In
the span of just one decade, or maybe two, we have
watched with trepidation as our nation went from
being the financial leader of the world to the largest
debtor nation. Yet, in the eyes of some people, we
also may have lost our moral compass and our sense
of responsibility.
The transformation of State government must
begin with the budget. It may be too large and
growing too fast. The laxity with which we adopt
and manage the budget encourages inefficiency, in-vites
wasteful expenditures and fails to address the
urgent needs of our society in a timely and effective
manner. Public spending has increased in North
Carolina since the mid-1980s at the alarming rate of
well over $1 billion a year.
7
Tax Fairness
Of primary importance to us is a tax system that
is equitable, fair and reasonable. Citizens will toler-ate
an unfair tax system for so long, as our ancestors
clearly illustrated when they rebelled against the
King of England in 1776.
It was the business of taxes, historians say, that
led to the necessity of creating money, the profes-sions
of accounting and law, and a bureaucracy for
administering them.
Good taxes, Adam Smith wrote in his 1776 book,
Wealth of Nations, must meet four criteria. First
they should be based on an individual’s ability to
pay. Second, good taxes should be certain. Third
they should be convenient to collect and fourth, they
should be efficient and economical.
Even now there is considerable evidence that
our tax system in North Carolina is in need of a
major review and adjustment. When it takes more
paper to print the exemptions and exclusions from
the State tax code than it does to print the State
Constitution, there is reason for concern that special
interests have gone too far in gaining relief from
paying their fair share.
It is especially important that we also look at the
modern forms of commerce, particularly electronic
commerce which accounts for a rapidly accelerating
share of business, much of which is untaxed at the
present time. If we continue to depend upon retail
sales transactions to generate the bulk of our sales
tax revenue and ignore the huge growth in electronic
sales, it is inevitable that we will see a precipitous
decline in that important source of revenue.
The property tax is another source of revenue
that must be examined in terms of our changing
economy. Taxpayers have shown a reluctance in re-cent
years to increased property taxes, a trend
which will out of necessity force future leaders to
look more aggressively for alternative sources. The
question is what source and how much?
Public Debt
Our public debt in North Carolina, at both the
State and local levels, now exceeds $28 billion and is
increasing at the rate of some $1 billion and more a
year. It is not just the debt but the purpose of the
debt that should concern us. When we borrow money
and repay it over a period of 20 to 30 years to re-build
our infrastructure in long term improvements,
that is a good use of debt and will repay itself many
times over. However, when we borrow money to give
away in grants to other spending entities or to pur-chase
short term goods and services that are long
gone before the capital is repaid, that is an unwise
use of debt. We must remember that in the larger
sense, public debt is a transfer of liabilities from one
generation to the next. We should be certain before
we burden our children and grandchildren with debt
that it is for a good cause — that it represents an
investment for future generations.
Budgetary Process
Our State budget process is archaic and desper-ately
in need of a major overhaul. It is past time
that we consider a zero-based budget concept in
which agencies are required to justify their entire
programs each year as they submit new budgets.
The current procedure in which existing funding
levels are assumed sacrosanct tends to build in and
hide inefficient and wasteful programs which would
be exposed and replaced by closer scrutiny.
In 1991 the General Assembly authorized a
comprehensive examination of all State government
programs with an initiative called the Government
Performance Audit Commission (GPAC). Two years
later the Commission presented hundreds of recom-mendations
that it said could save the State nearly
$300 million annually. Only five of these recommen-dations
have since been adopted and only a small
fraction of the potential savings have been achieved.
Once a program has been established, it develops a
constituency that fights for its continuation even
after the program is no longer needed. Under a zero-based
budget, agencies would compete for the funds
available on the basis of the need for those programs
and according to funds then available.
Rainy Day Fund
Our recent experiences with the devastation
caused by Hurricane Floyd suggest that we ought to
consider increasing the size of the “Rainy Day
Fund,” our contingency fund for meeting unexpected
emergencies. It had been maintained at approxi-mately
a half billion dollars for several years but
was reduced by some 40 percent just before the flood
to pay for intangible tax refunds. Perhaps we should
gradually increase this fund to $1 billion so that we
will be better prepared to meet future emergencies.
In comparison to our annual budget of some $24 bil-lion,
a $1 billion “Rainy Day Fund” represents only a
8
four percent reserve which is entirely reasonable and prudent.
Infrastructure
The State’s infrastructure is in bad need of ma-jor
repair, in many areas. We need billions of dollars
for new schools and for repairing and renovating
existing but old school buildings. Our public univer-sities
project a need of some $6 billion in urgent
capital improvements. Our Highway Trust Fund is
short billions of dollars in relation to what is needed
to rebuild our public highways and bridges to a sat-isfactory
level. These are just the statewide infra-structure
needs that North Carolina faces in the
near future.
There are additional dollars in capital expendi-tures
needed at the county and city level in terms of
water treatment and sewerage facilities. We cannot
continue to ignore these needs much longer.
Conclusion
With the growth of our population there will be
increased demands for more and better services. All
State agencies are experiencing such demands and
at a time when resources are becoming limited as
the public demands greater accountability and is
less inclined to support huge increases in public
spending. These conflicting trends will insure that
public leaders in the future will have to work
smarter and more resourcefully than ever before.
They must insure that only the most essential pro-grams
survive and that even those will have to op-erate
efficiently and prudently.
It is more important now that our policy makers
examine every spending request very carefully to
make sure that it is for a good cause and that each
dollar of the public’s money spent generates at least
a dollar’s worth of value. Are we planning ahead for
the future we want; and if not now, when?
The State’s Major Issues-In-Waiting
In addition to the budget challenges we now face
there are a number of other equally important is-sues
that we may deem worthy of the serious atten-tion
of our present and future leaders. For example,
there is:
· the growing perception that our governments
have the solution to all our needs and wants;
· a State tax structure that is full of holes ¾
lacking in fairness and equity among the people;
· a State budget system that serves little value in
letting the people know how their tax dollars are
being spent, and why;
· the issue of pending law suits by low wealth
counties for public education ¾ an issue that
should rest with the General Assembly;
· the need for an overhaul of the budgeting system
for the public schools, and how the State’s dol-lars
are allocated and used;
· the overlapping of the roles and service respon-sibilities
of the State and the counties and cities;
· a higher education system that cries out for co-ordination
of programs among the 4-year cam-puses
and the community colleges;
· a multitude of issues surrounding the deregula-tion
of the electric utility industry;
· the excessive optimism regarding the moneys to
be received from the tobacco settlement, and the
prospect for reduced payments; and
· the need for early involvement by the General
Assembly in the rapidly developing plans for
mass transit, and the funding sources to be iden-tified
and made available.
9
Investment and Banking Division
The Investment and Banking Division’s func-tions
can be categorized into two major areas of re-sponsibility:
1. Serving as the “State’s Banker.”
2. Serving as the “State’s Chief Investment Of-ficer.”
The Division is organized into two sections in
order to carry out these constitutional and statutory
functions. They are the “Banking Operations Sec-tion”
and the “Investment Management Section.”
Organizationally, this enables the Division to
perform in an effective and efficient manner.
C. Douglas Chappell
Director
Investment Banking
Management Operations
Section Section
Cash Trust Funds Specialized Disbursing
Management Investment Bank Account
Program Program Accounting Services
Bank Account
Reconciliation
Operational Highlights
• Assets under management at June 30, 1999
amounted to approximately $65 billion.
• Assets of the Cash Management Program
totaled $9.5 billion (at book value) generat-ing
a cash return of 6.08%.
• Assets of the Trust Funds Investment Pro-gram
totaled almost $55.5 billion (at market
value) producing a total return of 10.74%.
• The Long-term Investment Portfolio (fixed-income
securities) held assets valued at
$23.9 billion and generated a total return of
1.06%. (Departmental Accounting Section
records reveal a realized income component
of 8.39%.)
• The Equity Investment Portfolio with assets
of $30.3 billion produced a total return of
19.71% for the fiscal year, while generating
an annualized total return of 24.65% during
the trailing 36 months.
• The value of securities pledged to the State
Treasurer to secure public deposits in
North Carolina financial institutions
totaled over $2.9 billion.
• Some 250,000 bank deposits, made by 775
depositing agency locations across the
State, were processed and accounted for.
• Some 22.9 million State warrants were
cleared (processed) during the year.
• Over 3 million disbursements (12% of all
disbursements) were made by electronic
funds transfer (EFT).
• In excess of $3.75 billion in pay/benefits
were paid to State employees and retirees
through “direct deposit.” This is 86% of all
eligible recipients.
• In excess of $4 billion in payments were
made electronically to local governmental
units.
10
Banking Operations
Serving as the State’s Banker
The General Assembly of North Carolina has
authorized a centralized system for managing the
flow of moneys collected and disbursed by all State
departments, agencies, institutions and universities
(entities). Rather than each of these entities having
an account with a commercial bank, they maintain
accounts with the State Treasurer. The State Treas-urer
in turn provides each entity the same service
that a commercial bank would normally provide.
This system assures that the State is the prime
beneficiary of the flow of its funds through the com-mercial
banking system in the course of conducting
State business. This banking function is provided
through the Division’s Banking Operations Section.
Receiving State Moneys
All revenues collected by a State entity on behalf
of the State must be deposited with the State Treas-urer
for credit to the entity’s budget code account.
For entities located in Raleigh near the Albemarle
Building, deposits are accepted by the Investment
and Banking Division’s “teller window.”
The Department of Revenue utilizes remittance
processing equipment for tax payments received by
check and prepares “cash letters” for presentment to
corresponding depository banks as arranged by the
State Treasurer’s Office. Additionally, the Depart-ment
of Revenue has established a system whereby
certain taxpayers owing large tax payments to the
State must remit the payments electronically for
credit to an established State Treasurer’s bank ac-count.
For entities located outside of Raleigh, the Divi-sion
has established correspondent depository rela-tionships
with various banks and savings
institutions in order for those entities to have a con-venient
location to make their deposits. During fis-cal
year 1998-99, the Division processed and
accounted for approximately 250,000 deposits made
by 775 different depositing entities. The majority of
the entities deposit into a single Raleigh cash con-centration
account maintained with one of the seven
banking institutions having a State-wide branch
network. This minimizes the number of bank ac-counts
needed and allows for the funds deposited to
be concentrated for use by the Investment Manage-ment
Section as soon as the moneys become “col-lected
funds.”
Some entities are not located near a cash con-centration
bank branch. In these situations, an ac-count
is established with a local community bank to
accept their deposits. Once notified of the deposit of
funds into one of the local depository accounts, the
Banking Operations Section initiates Automated
Clearing House (ACH) debits in order to consolidate
the funds into a central bank account. At fiscal year
end, there were 55 local depository relationships.
An automated deposit reporting system, opera-tional
since 1993, allows the 775 depositing entities
to report their deposits to the State Treasurer’s Of-fice
through an on-line system. The on-line system
operates through the State computer network and
provides the State Treasurer’s Office immediate no-tification
of the deposit of funds by the agencies.
Shown below and on the next page are charts
showing the categories of entities depositing with
the State Treasurer and the flow of funds collected.
Chart 1
Number of
Depositing Locations
By Category
Drivers License Offices 142
License Plate Agents 146
DENR Parks & Offices 74
Clerks of Court 100
Community Colleges (multiple) 67
DOT Stations 55
DHHS Hospitals & Facilities 30
Universities (multiple) 44
Agricultural Facilities 31
Historical Sites 10
Other 76
775
11
Deposit of State Funds Chart 2
Routing of State Warrants (Checks) for Payment Chart 3
Taxes, Fees, and Tuition Payments
State Other
Parks
Universities
Federal
Funds
Raleigh
Clearing Banks
Clerks of
Court
Drivers
License
Offices
License
Plate
Agents
Community
Colleges
Cash
Concentration
Banks
Community
Banks
Taxes
Investment &
Banking Division
Department
of Revenue
State Treasurer Raleigh Agencies
State
Agencies
Universities Community
Colleges
Local School
Systems
State Warrants
Payees (Recipients)
Financial Institutions
Federal Reserve Bank
State Treasurer
12
Disbursing State Moneys
North Carolina primarily utilizes a warrant
system to disburse funds. In order for a State entity
to disburse funds, it issues warrants (State checks)
against a disbursing account maintained with the
State Treasurer, made payable to an eligible payee.
The warrants bear the State Treasurer’s unique
ABA transit-routing number and are payable at par
through the Federal Reserve System. Warrants
issued by the various State entities are deposited by
the recipients into the commercial banking system
and are ultimately presented to the State
Treasurer’s Office for payment. The daily warrant
clearings are accepted from the Federal Reserve
Bank. The main advantage of the warrant system is
that the “banker’s float” and the earnings thereon,
are captured for the State.
The Division provides each entity a disbursing
account. This is similar to a commercial checking
account service provided by the banking community
for its customers. The Division verifies the validity
of warrants presented against each entity’s account
and does not pay those deemed invalid. Monthly
statements are rendered to each entity.
A major change is being implemented to replace
the system for processing warrant clearings. The
system, to be operational November 1, 1999, will
provide for all warrant clearings to be processed
through the Federal Reserve Bank (FRB) in Char-lotte.
This arrangement with the FRB, along with
the acquisition of an image storage/retrieval system,
will allow the various agencies to have access to im-ages
of their paid warrants. This access will be pro-vided
through the Internet, with appropriate levels
of security (relative to access) being implemented.
Through the approximately 700 disbursing
accounts, some 22.9 million warrants were processed
during the fiscal year. This was a 1% increase from
the prior year’s figure of 21.8 million. The largest
activity accounts included WIC Benefits, Income Tax
Refunds, Unemployment Benefits, Child Support
Payments and Social Services Entitlements. Activity
associated with maintenance of the accounts in-cluded
the processing of nearly 1,000 alleged for-geries
and approximately 10,200 stop payments.
On the bottom of the preceding page there is a
chart showing “the routing” of warrants (checks) as
they are presented to this office for payment. The
chart below shows the volume of warrants cleared
(paid).
Chart 4
Warrants Cleared
for Fiscal Year Ended June 30
In addition to the 22.9 million disbursements by
paper warrants, 3 million (12% of all disbursements)
were made by electronic funds transfer (EFT.)
Specialized Banking Services
Certain banking services provided by the Bank-ing
Operations Section are categorized as “special-ized”
and include investment transaction processing,
collateralization of public funds monitoring and
EFT.
Investment Transactions Processing — One
of the responsibilities of the Section is the comple-tion
of all investment transactions after they have
been entered into by the Investment Management
Section, which entails consummating the receipt and
delivery of securities traded versus payment. Asso-ciated
with this function is the timely collection of
all interest and the par value of all maturing securi-ties.
In order to take advantage of the modern con-cepts
of book-entry and central depositories, the
custodial functions for all eligible securities are per-formed
through contractual arrangements, by the
Bank of New York. The Bank of New York utilizes
the Depository Trust Company, the Participant
Trust Company and the Federal Reserve Bank book-entry
system. These arrangements enable the State
Treasurer to participate actively in the securities
lending market.
Collateralization of Public Deposits — A
significant responsibility of the Section is to monitor
the collateralization of public deposits in North
Carolina banks and savings institutions for both
State deposits and certain local governmental units.
21.0
21.5
22.0
22.5
23.0
23.5
Fiscal Year
Clearings
1997
21.8
1998
22.8
1999
22.9
13
Collateralization is required for deposits exceeding
any insurance coverage provided by the Federal
Deposit Insurance Corporation (FDIC).
At June 30, 1999, 58 depositories had pledged
securities with a total market value of over $2.9
billion to the State Treasurer through 26 different
escrow agents. Forty-seven of these depositories
utilize the “Pooling Method” of collateralizing public
deposits (deposits of their local governmental de-positors
are secured through the State Treasurer’s
Office). Of the total securities pledged, approxi-mately
13% were to secure State deposits. The Sec-tion
monitors the capital adequacy of the
institutions which are required to provide collater-alization.
Determining capital adequacy is a vital
component of the collateralization monitoring proc-ess.
Electronic Funds Transfers — The collection
and remittance of funds via electronic funds transfer
(EFT) plays a major role in the successful operation
of the Division. Methods of EFT utilized include wire
transfer, Automated Clearing House (ACH) credits,
and ACH debits. The Section funds the direct
deposit remittance of payroll and retirement ben e-fits
effected by the 10 State payroll centers and the
Retirement Systems Division. Over 330,000 people
receive their monthly pay/benefits through direct
deposit, amounting to more than $3.75 billion
annually. This represents a participation rate of
86% on a combined basis.
Other utilization of EFT includes: the collection
of federal funds from the Federal government via
wire transfer and ACH credit; the daily concentra-tion
of funds deposited in the 55 community banks
that are not a part of the branch cash concentration
system; the weekly collection of interest due on cer-tificates
of deposit and savings certificates via ACH
debits; and the initiation of vendor payments via
ACH credit on behalf of various State agencies.
The Department of Revenue operates its own
EFT program for the collection of certain taxes from
corporations and local governments. During FY
1998-99, $9.1 billion was collected through their
EFT program for deposit with the State Treasurer.
State Treasurer’s Electronic Payments Sys-tem
(STEPS) — The STEPS program is now avail-able
to all State agencies for remitting moneys to
local governmental units (STEPS-OUT) and for re-ceiving
certain moneys from local governmental
units (STEPS-IN). The system utilizes the ACH to
facilitate the transfers electronically, eliminating
the necessity of issuing and mailing checks. A PC
software program called “PC-STEPS” is utilized by
State agencies to initiate payments and collections
through the State Treasurer’s Office. STEPS offers
the local units the option of having their payments
deposited to or remitted from an account maintained
with the financial institution of their choice. A cash
management directive issued by the State Control-ler’s
Office requires that certain types of payments
to and from local units of government be remitted
through STEPS.
The use of STEPS-IN has been offered by the
Retirement Systems Division since 1992. A unit
desiring to remit its monthly retirement contribu-tion
payment simply makes a toll-free telephone call
to the State’s contracted data collection center to
authorize an ACH debit to be initiated against its
selected depository account. A local unit can also
authorize the payment using a personal computer.
STEPS allows the local unit the ability to control the
effective date of a payment, thereby providing as-surance
that the payment is not made earlier than
necessary, but is made timely in order to avoid any
penalties. During FY 1998-99, over $4 billion of
State-shared revenues was distributed, and over
$2.5 billion was collected through STEPS.
Payment of the State’s Debt — The State
Treasurer is charged with the responsibility of
making timely payment of principal and interest on
North Carolina’s general obligation debt (a function
vital to the maintenance of the State’s “AAA” credit
rating). The Division arranges to have “readily
available funds” in the hands of the paying-agent
banks on due dates via EFT. Through these
arrangements, the bondholders have access to their
money as promised; meanwhile, the funds are
invested for the benefit of the State until the last
possible moment.
Complete information as to amounts of principal
and interest due, by issue, is provided by the State
and Local Government Finance Division.
Bank Account Reconciliation — During the
year a separate unit was organized, consolidating
the reconciliation function of all bank accounts into
one unit. The unit reconciles, mostly on a daily ba-sis,
all deposit and disbursement transactions per-taining
to the various bank accounts.
Bank Account Analysis — The Banking Op-erations
Section monitors the service activity of the
seven cash concentration banks and the 55 commu-nity
banks, in order to ascertain and establish the
appropriate balance level to be maintained in each.
An established methodology for determining the ap-propriate
balance ensures that the uninvested por-tion
of the Treasurer’s cash balances maintained
with the depositories, to compensate for banking
services rendered, is kept at a minimum.
Cash Flow Calculations — All of the various
banking functions result in cash flows that affect the
bank balances making up the Treasurer’s total cash
position on a daily basis. This data is generated
daily by the Banking Operations Section and serves
as the base for the Division’s investment functions.
14
Investment Management
Serving as the State’s Chief Investment Officer
The State Treasurer administers the Cash
Management and Trust Funds Investment Pro-grams.
As such, the Treasurer is directed by statute
to “establish, maintain, administer, manage and op-erate”
investment programs for all funds on deposit,
pursuant to the applicable statutes. In so doing, the
Treasurer “shall have full power as a fiduciary” and
shall manage the investment programs so that the
assets “may be readily converted into cash as
needed.”
At June 30, 1999, total assets under manage-ment
were nearly $65 billion. This total represents
the aggregate assets of the several retirement sys-tems,
various other trust funds, and the General and
Highway Funds. In establishing the comprehensive
management program, the State Treasurer, utilizing
a professional investment staff, has developed an
investment strategy for each portfolio that recog-nizes
the guidelines of the governing General Stat-utes,
and provides diversification as appropriate for
the participants. Through these investment pr o-grams,
as modified from time to time, the
investment management staff strives to enhance the
performance of assets under the State Treasurer’s
control.
General Investment Objectives —
Cash Management Program:
To generate maximum income consistent with the
principles of safety and liquidity. Prudence in dis-charging
this fiduciary obligation requires that all
investments be reviewed continuously, so that op-portunities
in the secondary markets, to improve the
quality and/or the income stream, are not over-looked.
Trust Funds Investment Program:
To generate returns that match or exceed those of
the appropriate benchmarks on a three-year trailing
basis, thereby, assisting in maintaining actuarially
sound funding levels for the retirement systems as-sets
(the predominant participants), while main-taining
the necessary diversification.
Operating Policy —
In all transactions executed for either invest-ment
program managed by the State Treasurer, the
objective is to transact such business in the best in-terest
of the beneficial owners of the trusts’ assets.
Some of the business will be done with North
Carolina institutions or with institutions having an
office in this State, provided it can be done at no
disadvantage to the interest of said trusts’ assets.
Shown below is the percentage the Cash Man-agement
and Trust Funds Investment Programs
represent of total assets under management:
Chart 5
Total Assets
Under Management
as of June 30, 1999
Total Assets $64,882,000,000
Cash
Management
Program
14%
Trust Funds
Investment
Program
86%
15
The State Treasurer’s Investment Pool
Most investable assets in the custody of the
State Treasurer are held in the State Treasurer’s
Investment Pool. This investment pool is comprised
of five portfolios:
i A short-term fixed income portfolio that invests
in highly liquid money market instruments,
treasuries, agencies and some liquid short-term
corporate issues.
i A long-term fixed income portfolio that invests
in longer term, high quality corporates, as well
as treasuries, agencies and GNMA mortgage-backed
securities.
i An equity portfolio that invests in equity securi-ties
through fiduciary relationships with a num-ber
of experienced equity money managers.
i A real estate portfolio that invests in real estate
by purchasing shares of beneficial interests in
various fiduciary relationships.
i A venture capital portfolio that invests as a
limited partner in venture capital partnerships
managed by experienced venture capital firms.
The financial statements of the State Treasurer’s
Investment Pool are included in a separate report
bound within this document.
In addition, there is a Bond Proceeds pool of
some $701 million within the Cash Management
Program to hold and invest moneys subject to fed-eral
arbitrage regulations.
Investment objectives are realized for the inves-tor
funds through participation in multiple portfolios
when this is considered appropriate.
Management of the investments is separated
between the Cash Management Program and the
Trust Funds Investment Program. Cost of the total
investment program is shared in an equitable man-ner
among all portfolios administered by the State
Treasurer.
The next two charts show the State Treasurer’s
Investment Pool participating entities balances and
earnings at fiscal year end.
Chart 6
THE STATE TREASURER’S ASSETS UNDER MANAGEMENT
PARTICIPATING ENTITIES’ BALANCES BY TYPE AND SEGMENT
as of June 30, 1999
(Stated in $ millions)
Cash Management
Program Trust Funds Investment Program
STIF LTIF EIF REIF VCIF Eliminations* Total
Pool Assets
General Fund $2,749 $ 2,749
Highway Fund 1,065 1,065
Retirement Funds 101 $23,075 $30,324 $766 $76 54,342
Various Special Funds 3,149 1,225 4,374
Other 1,768 20 (137) 1,651
Total Pool Assets 8,832 24,320 30,324 766 76 (137) 64,181
Non Pool Assets
Bond Proceeds Fund 701 701
Assets Under Management $9,533 $24,320 $30,324 $766 $76 $(137) $64,882
*Amount of investment by other portfolios within “STIF” & “LTIF” and included in the assets of the appr o-priate
portfolio.
NOTE: Balances shown in this chart are at the Fund level as reported by the Departmental Accounting
Section.
16
Chart 7
THE STATE TREASURER’S ASSETS UNDER MANAGEMENT
PARTICIPATING ENTITIES’ EARNINGS BY TYPE AND SEGMENT
as of June 30, 1999
(Stated in $ millions)
Cash Management
Program Trust Funds Investment Program
STIF LTIF EIF REIF VCIF Eliminations* Total
Income on Pool Assets
General Fund* $253 $253
Highway Fund 55 55
Retirement Funds 12 $1,729 $1,065 $57 $ 9 2,872
Various Special Funds 189 89 278
Other 9 2 $(11)
Total income distributed
and distributable 518 1,820 1,065 57 9 (11) 3,458
Changes in undistributed
Income (1,521) 3,923 9 7 1 2,419
Total Income of Pool 518 299 4,988 66 16 (10) 5,877
Income on Non Pool Assets
Bond Proceeds Fund 35 35
Income on Assets Under
Management $553 $ 299 $4,988 $66 $16 $(10) $5,912
*Amount of earnings distributed to other portfolios from “STIF” & “LTIF” and included in the appropriate
portfolio earnings.
NOTE: Earnings shown in this chart are at the Fund level as reported by the Departmental Accounting
Section.
Cash Management Program
The Cash Management Program is comprised of
two portfolios:
i A short-term fixed income portfolio (the Short-
Term Investment Portfolio), and
i The bond-arbitrage related investment pool con-sisting
of the unexpended net proceeds of State
general obligation bond issues, (the Bond Pro-ceeds
Investment Pool).
The investments of the Cash Management Pro-gram
include primarily money market instruments
and short-to-intermediate-term treasuries and agen-cies.
All bank accounts of the State Treasurer are
included in portfolios of the Cash Management Pro-gram.
The Division tracks the flow of funds into and
out of the accounts of the State Treasurer on a daily
basis. From this is determined the amount of cash
which is needed for operations during the day and
the amount of cash available for investment that
day. Available cash is invested as authorized with
due regard to projected future cash needs.
The benchmark objective of the Cash Manage-ment
Program is for the year-to-date cash return to
match or exceed the average bond equivalent yield
for the auction of one-year Treasury bills on a trail-ing
three-year period. On this basis, the Cash Man-agement
Program generated a 6.08% return versus
the benchmark return of 5.34%.
Because the Treasurer’s cash balances are
ultimately subject to disbursement upon presenta-tion
of valid warrants, the primary considerations in
making investments are safety and liquidity; the
secondary consideration is income. The invested as-sets
of the Cash Management Program fluctuated
between $8.8 billion and $10.2 billion during the
fiscal year. Revenues from the Cash Management
Program were approximately $553 million in the
fiscal year ended June 30, 1999, again generating a
cash return of 6.08%. Of the earnings, over $307
million was for the General and Highway Funds.
17
Short-Term Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Short-Term Investment Portfolio (STIP)
Data as of June 30, 1999
Invested Assets: $8,654,047,000
Benchmark: Two-year constant maturity
Treasury Notes
Management: Internal
Inception: 1949
Chart 8
Distribution by Maturity Range as of June 30
0 — 1 years 15.17%
1 — 2 years 15.50%
2 — 3 years 12.56%
3 — 4 years 25.82%
4 — 5 years 23.97%
5 — 7 years 6.98%
100.00%
Chart 9
Invested Assets as of June 30
Chart 10
Realized Income for Fiscal Year Ended June 30
DESCRIPTION OF THE PORTFOLIO
The Short-Term Investment Portfolio is com-prised
of high quality money market investments
and U.S. Government securities. Created in 1949, it
serves as a cash management tool for funds required
to be or voluntarily placed on deposit with the State
Treasurer. The objective of the portfolio is to pr o-vide
as high a level of current income as is consis-tent
with safety of principal and sufficient liquidity
to meet the daily cash flow requirements. The major
participants in the portfolio are the General Fund,
Highway Funds, and the cash balances of other
trust portfolios managed by the State Treasurer.
The State Treasurer sets the broad investment
policy and utilizes the professional in-house staff of
the Investment and Banking Division to manage the
assets. The current investment method for this
portfolio is a laddering of maturities of securities
authorized in G.S. 147-69.1. This strategy means
that the assets are distributed fairly evenly over a
stated maturity range. The maturity range for the
Short-Term Investment Portfolio is from one day to
seven years. The laddering strategy allows for suffi-cient
liquidity for short-term cash needs, but allows
the advantage of investing out the yield curve.
Within this laddering strategy, there is an active
management style which takes advantages of oppor-tunities
in the marketplace.
The performance benchmark for the portfolio is
the two-year constant maturity U.S. Treasury note.
This benchmark correlates well with the average
maturity of the securities held in the portfolio.
The portfolio has grown in size during the past
fiscal year from $8.3 billion to $8.7 billion while net
income increased from $505 million to $518 million.
350
400
450
500
550
Fiscal Year
Income
1997
$467.4
1998
$504.8
1999
$517.7
Milllions of $
6.0
6.5
7.0
7.5
8.0
8.5
9.0
1997 1998 1999
$7.9 $8.3 $8.7
Fiscal Year
Assets
18
RISK PROFILE
The portfolio is subject to several forms of risks.
These include, but are not limited to, purchasing
power, default, reinvestment and market risks.
However, the portfolio is considered low risk because
of the high quality, highly liquid securities held.
The laddered structure also minimizes risk and
volatility. By maintaining this low risk approach,
participants enter and exit the portfolio on a dollar-in,
dollar-out basis.
Chart 11
Top Ten Largest Holdings as of June 30
Issuer Par Value % of STIP
USTN 5.750 11/30/02 250,000,000 2.88%
USTN 5.625 12/31/02 250,000,000 2.88%
USTN 5.500 01/31/03 250,000,000 2.88%
USTN 5.750 08/15/03 250,000,000 2.88%
USTN 4.250 11/15/03 250,000,000 2.88%
USTN 5.875 02/15/04 250,000,000 2.88%
USTN 4.750 02/15/04 250,000,000 2.88%
USTN 5.875 11/15/05 250,000,000 2.88%
USTN 5.625 02/15/06 250,000,000 2.88%
FHLM 5.000 01/15/04 250,000,000 2.88%
Total 2,500,000,000 28.80%
Chart 12
Net Cash Returns
for Fiscal Year Ended June 30
Chart 13
Two-Year US Treas. Note Yields in FY 98-99
PORTFOLIO CHARACTERISTICS
The portfolio at June 30, 1999 was comprised of
81.0% U.S. Treasury securities, 15.8% U.S. Govern-ment
agency securities, 1.8% in North Carolina Cer-tificates
of Deposit and 1.4% in Repurchase
Agreements. The portfolio contained 124 different
issues and had an average maturity of about 3.1
years. The portfolio’s average duration was 2.75
years with an average coupon of 5.61%. The average
weighted yield-to-maturity of the portfolio at June
30, 1999 was 5.83%.
PERFORMANCE SUMMARY
The portfolio had a net cash return for the fiscal
year of 6.16%. The return compares very favorably
against the benchmark two-year constant maturity
U.S. Treasury Note, which averaged 4.92% during
the past fiscal year. One reason for the difference in
returns is that some of the portfolio holdings were
earning at rates higher than current interest rates.
A large portion of the current portfolio holdings were
purchased when interest rates were higher than
they were during the past year. Thus, we are able to
continue earning at the higher rates of return.
In some years past, this situation has been re-versed
when portfolio returns were lower than the
interest rates during the particular fiscal year.
An additional factor which can affect perform-ance
is the amount of funds which are available for
investment. Depending on the level of interest rates
and the yield curve, cash flow can either add to or
subtract from the returns generated.
4.00
4.30
4.60
4.90
5.20
5.50
5.80
6/98 7/98 8/98 9/98 10/98 11/98 12/98 1/99 2/99 3/99 4/99 5/99 6/99
5.00
5.25
5.50
5.75
6.00
6.25
6.50
Fiscal Year
Cash Returns
1997
6.48%
1998
6.39%
1999
6.16%
19
Bond Proceeds Investment Pool
DESCRIPTION OF THE PORTFOLIO
The Bond Proceeds Investment Pool was estab-lished
in 1987, as a separate portfolio, in order to
comply with Internal Revenue Service (IRS) regula-tions
on bond arbitrage. Sterling Capital Manage-ment
serves as the managing agent for this portfolio.
In addition to asset management, they provide bond
arbitrage tracking and record keeping for the State
and Local Government Finance Division.
The objective of the portfolio is to provide maxi-mum
income within the parameters of the IRS
regulations on bond arbitrage.
RISK PROFILE
The portfolio’s risk is minimal due to the short-term
nature of the assets. Investment vehicles
authorized in G.S. 147-69.1 are employed by the in-vestment
manager to invest all cash in the portfolio
in excess of the amount required to meet current
needs, in such manner as to be “readily convertible
into cash” as needed.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the Bond Proceeds portfolio
was comprised of 14 separate bond issues with a
combined book value of approximately $701 million.
The average maturity and duration of the portfolio
was approximately eight days. The longest maturity
of any individual holding was 50 days. At June 30,
the portfolio was comprised of 65% repurchase
agreements, 25% commercial paper rated not less
than A1/P1 and 10% in discount notes.
PERFORMANCE SUMMARY
The portfolio generated earnings of over $35.4
million and produced a net cash return of 5.10% for
the fiscal year.
Trust Funds Investment Program
The Trust Funds Investment Program is com-prised
of four of the portfolios in the State Treas-urer’s
Investment Pool providing diversification as
follows:
i A long-term fixed income portfolio (the Long-
Term Investment Portfolio) that invests in
longer term, high quality corporates, as well as
treasuries, agencies and GNMA mortgage-backed
securities.
i An equity portfolio (the Equity Investment Port-folio)
that invests in equity securities through
trust relationships with a number of experienced
equity money managers.
i A real estate portfolio (the Real Estate Invest-ment
Portfolio) that invests in real estate by
purchasing shares of beneficial interest in vari-ous
fiduciary relationships.
i A venture capital portfolio (the Venture Capital
Investment Portfolio) that invests, as a limited
partner, in venture capital partnerships man-aged
by experienced venture capital firms.
The investments in the Trust Funds Investment
Program are primarily for the benefit of the long-term
reserves of the pension funds administered by
the Department. The two largest of the pension
funds are the Teachers’ and State Employees’ Re-tirement
System and the Local Governmental Em-ployees’
Retirement System. Of the trust funds
under management, 98% belong to the retirement
systems.
In addition to the assets of the various retire-ment
systems and funds, numerous other trust
funds are managed, including the North Carolina
Employee Disability Fund, the Escheat and Aban-doned
Property Fund, various educational trust
funds, the State Property Fire Insurance Fund, the
Insured Student Loan Program and the Wildlife En-dowment
Fund.
The benchmark objective for the Trust Funds
Investment Program is for the four portfolios which
make up the program to match or exceed their re-spective
benchmarks on a trailing three-year period.
This program generated a total return of 10.74%
during the past fiscal year.
SPECIFIC CONSTITUTIONAL PROTECTION
The retirement systems’ investment integrity is
held inviolate by Article V, Section 6.(2) of the North
Carolina Constitution, which pr ovides:
“Neither the General Assembly nor any
public officer, employee, or agency shall
use or authorize to be used any part of
the funds of the Teachers’ and State Em-ployees’
Retirement System or the Local
Governmental Employees’ Retirement
System for any purpose other than re-tirement
system benefits and purposes,
administrative expenses, and refunds;
except that retirement system funds may
be invested as authorized by law, subject
to the investment limitation that the
funds of the Teachers’ and State Employ-ees’
Retirement System and the Local
Governmental Employees’ Retirement
System shall not be applied, diverted,
loaned to, or used by the State, any State
agency, State officer, public officer, or
public employee.”
20
Equity Investment Portfolio
Performance Review
Fiscal Year Ended June 30,1999
EQUITY INVESTMENT PORTFOLIO (EIP)
Data as of June 30, 1999
Invested Assets: $30,324,069,000
Benchmark: Blended comprised of 63% S&P
500, 18% S&P 400, 9% S&P 600,
7.5% EAFE and 2.5% Emerging
Markets
Management: Nine firms are utilized for the
management of 25 separate eq-uity
portfolios
Inception: 1961
PORTFOLIO DESCRIPTION
The objective of the EIP is to provide long-term
growth of capital while observing the requirements
of applicable State law and the principles of prudent
investment management. The EIP is expected to
generate a “total return” which will equal or exceed
that of a blended benchmark over a trailing 36-
month time period. The blended benchmark will be
constructed to reflect the midpoint or “neutral
weightings” of various equity markets, encompass-ing
both domestic and international markets.
This portfolio represents approximately 55.9% of
the assets of the various North Carolina retirement
systems. These systems are “defined benefit plans”
and as such provide retirement benefits to retirees
based on formulas prescribed by law.
The diversification represented by this portfolio
provides positive benefits to the asset/liability mix
during periods of low to moderate inflation due to
the long duration of the asset class.
The EIP is constructed based on efficient fron-tier
models that develop mid points or neutral
weightings for various equity asset classes. These
neutral weightings are designed to show how the
portfolio can be constructed so that the best risk re-ward
scenario is obtained. The State Treasurer and
members of the Equity Investment Advisory Com-mittee
then determine if certain sectors of the equity
model should be over-weighted or under-weighted.
The model breaks the EIP into several components.
First, the total portfolio is allocated between domes-tic
equities and international equities. From there
the domestic component is divided between large-cap,
mid-cap and small-cap stocks. In the interna-tional
arena, assets are divided between developed
and emerging markets.
RISK PROFILE
Fiscal year 1999 saw the volatility of the equity
markets increase from previous years. Because of
the increased volatility and its potential impact on
the assets of the EIP, much data is collected and
analyzed that allows the State Treasurer to deter-mine
with greater accuracy the risk profile of the
portfolio. At June 30, 1999, the following risk statis-tics
were observed:
R-squared vs. Blended Benchmark 0.99
Standard Deviation of the EIP 16.76%
Standard Deviation of the Benchmark 16.80%
Beta of the EIP vs. Benchmark 0.99
Sharpe Ratio of the EIP 0.04
These risk characteristics indicate that the EIP
exhibits slightly less volatility than that of the
benchmark as evidenced by the standard deviation
and beta figures. The Sharpe ratio is a measure of
return per unit of risk. A negative number would
indicate that the return generated is not commensu-rate
with the risk being taken. A positive number
means that incremental return is being generated
over what the risk profile would suggest. The EIP
exhibits a Sharpe ratio of 0.04 which indicates that
the returns being generated are very acceptable
given the risk profile.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the EIP held the highest con-centration
of its assets in domestic large-cap securi-ties.
Allocations were made to other areas of the
global equity markets with the intent of diversifying
some of the risks associated with the large-cap sec-tor
of the market. Analysis of the correlations be-tween
different segments of the market suggests
that the correlations are below 1.0, supporting the
decision to allocate funds to these components.
The State Treasurer and the Equity Investment
Advisory Committee set the broad equity allocation
ranges and utilize external managers to carry out
their mandates. At June 30, the EIP employed nine
management firms that manage a total of 25 differ-ent
portfolios. Obviously, several of these firms
manage multiple portfolios.
21
Chart 14
Portfolio Characteristics
Diversification by Capitalization
as of June 30, 1999
Market Value $30,324,069,000
Chart 15
Name and market value
of the ten largest exposures
via participation in the various trusts
as of June 30, 1999
Microsoft 851,292,440
General Electric 779,697,770
IBM 495,111,125
Citigroup 477,649,562
Bristol Myers Squibb 457,478,590
Cisco 455,586,229
Intel 452,114,760
Walmart 445,756,467
American Int’l Group 433,770,421
MCI Worldcom 398,434,771
Chart 16
Total Return of EIP
vs. Blended Benchmark
The following table reflects the management
firms utilized, the amount of assets, the number of
portfolios, and the types of portfolios managed for
the EIP.
Total
Assets # of
Firm ($ in millions) Port. Type
Alliance $12,798 7 Passive Large
Capital Mgmt. Passive Mid
Passive Small
Active Large (2)
International
Emerging Mkt
BB&T 217 1 Active Large
First Citizens 1,959 1 Active Large
First Union 947 1 Active Large
Franklin Street 565 2 Opportunistic
Partners Active Small
NCM 142 1 Active Large
Capital Mgmt.
TradeStreet 2,986 2 Enhanced 500
Inv. Assoc. Enhanced 600
Wachovia 1,550 2 Active Large
Asset Mgmt. Active Small
Wellington 9,159 8 Active Large (2)
Mgmt. Co. Biotechnology
Active Mid
Active Small (2)
International
Emerging Mkt
Large-Cap
75.1%
EAFE
6.5%
Small-Cap
5.6%
Cash
1.3%
Mid-Cap
9.8%
Emerging
Markets
1.7%
19.7118.54
22.63 21.62
24.65 24.09
0
5
10
15
20
25
30
1-Yr. 2-Yr. 3-Yr.
EIP Blended Benchmark
22
PERFORMANCE SUMMARY
The EIP outperformed the blended benchmark
for fiscal year 1999, posting a 19.71% total return
versus 18.54% return for the benchmark. Over a
trailing three-year time period, the EIP generated a
24.65% return versus 24.09% for the benchmark,
thus achieving the stated investment objective. In
terms of what contributed to the out-performance of
the EIP, the answer can be found in the allocation of
the portfolio. This portfolio has remained over-weighted,
versus the benchmark, in domestic large-cap
stocks. This sector of the equity market pro-duced
the second best returns during the year and
has been the best performing area over the last
three years. While the portfolio has had exposure to
international markets, the allocation to this area
was below the normal target found in the equity al-location
model. Active managers added value in the
domestic large cap and EAFE market segments of
the portfolio while a passive exposure of 34% in the
domestic large-cap sector also served to boost re-turns.
We continue to believe that lower expectations
in relation to equity investment returns for the fore-seeable
future, are justified. The average annual-ized
total return of the S&P 500 (as representative
of the domestic equity market) during the past 30
years has been 13.2%, sharply lower than the 25%-
plus returns of the last few years.
Long-Term Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
LONG-TERM INVESTMENT PORTFOLIO (LTIP)
Data as of June 30, 1999
Invested Assets: $23,936,808,000
Benchmark: Merrill Lynch Blended Benchmark
Management: Internal
Inception: 1941
PORTFOLIO DESCRIPTION
The State Treasurer sets the broad investment
policy and utilizes the professional in-house staff of
the Investment Management Section to manage the
assets of this fixed income portfolio of securities. The
holdings in the LTIP consist of fixed rate U.S. Gov-ernment
obligations, corporate debt, federal agency
obligations, dollar-denominated sovereign debt and
GNMA modified pass-through securities.
The objective of the fund is to provide diversifi-cation
and positive benefits to the asset/ liability mix
during periods of disinflation or deflation, while
maximizing returns at a risk level commensurate
with the identified benchmark. The benchmark for
the LTIP is a blend of established Merrill Lynch in-dices.
The mix consists of 40% U. S. Government/
agency securities, 40% corporate obligations and
20% GNMA 30-year mortgage pools.
Chart 17
Asset Allocation by Quarter-End
Chart 18
Treasury Yield Changes
During Fiscal Year
0 5
10
15
20
25
30
35
40
45
1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
Corp. GNMA Trsy/Govt
4.30
4.50
4.70
4.90
5.10
5.30
5.50
5.70
5.90
6.10
Jun-98
Jul-98
Aug-98
Sep-98
Oct-98
Nov-98
Dec-98
Jan-99
Feb-99
Mar-99
Apr-99
May-99
Jun-99
30 Year 10 Year
23
This portfolio represents approximately 42.5% of
the assets of the various North Carolina retirement
systems and approximately $1.2 billion of other
trust funds. The retirement systems are “defined
benefit plans” and as such provide retirement ben e-fits
to retirees based on a formula pr escribed by law.
RISK PROFILE
The LTIP is exposed to several forms of risk. These
include, but are not limited to, purchasing power, de-fault,
reinvestment and market risk. Fixed income se-curities
are extremely sensitive to changes in market
interest rates. As a means of monitoring the LTIP price
sensitivity to changes in market interest rates, the
staff tracks statistical data in relation to the portfolio.
PORTFOLIO CHARACTERISTICS
The LTIP continues to be a high quality fixed in-come
portfolio with a diverse group of holdings. The
portfolio, at June 30, 1999, was comprised of 40.5%
corporate obligations, 39.6% U.S. Govt./Agency securi-ties,
19.7% GNMA’s and 0.2% cash. The portfolio con-sists
of 606 different issues, with an average coupon of
7.15%, and an average final maturity of 19.5 years.
Nearly two-thirds of the total portfolio consists of secu-rities
that are rated AAA.
PERFORMANCE SUMMARY
The Long Term Investment Portfolio outperformed
the Merrill Lynch blended benchmark for the second
straight year, outpacing it by two basis points for the
fiscal year. This is especially notable given the sharply
different market conditions from one fiscal year to the
next. The prior fiscal year was characterized by a
plummeting yield curve and a sharp rise in bond prices,
while this fiscal year saw the treasury yield curve
shifting back higher and prices falling.
In what has to go down as one of the most active
years for the Federal Open Market Committee, there
were four rate changes over the course of the fiscal
year. It began with consecutive 25 basis point federal
funds rate cuts in September, October, and November,
and ended in a widely anticipated 25 basis point rate
increase on the last day of the fiscal year. Yields on 30-
year U.S. Treasury bonds ended the year 35 basis
points higher, sending bond prices sharply lower. Ten-year
U.S. Treasury securities experienced a similar
decline in value, with yields rising 37 basis points.
Corporate securities underperformed other asset
classes due to spread widening. The rising rate envi-ronment
benefited high coupon GNMA’s over low cou-pon
pools due to declining prepayment risk.
The portfolio produced a total return of 1.06% for
the fiscal year, leading the 1.04% return of the Merrill
Lynch blended benchmark. On a trailing two year ba-sis,
the LTIP produced a return of 7.61% compared
with 7.57% for the benchmark. The strong relative per-formance
was attributable to the shorter duration
structure of the portfolio’s government and corporate
exposure.
Governmental Accounting Standards Board State-ment
No. 31 became effective for our reporting on July
1, 1997. The Statement requires that the investment
assets and income be reported at fair value and there-fore
the fixed income assets of the Long-term Invest-ment
Portfolio are managed on a “total return” basis.
Total return includes realized income and any appre-ciation
or depreciation reflecting fair market value.
The Departmental Accounting Section advises that the
realized income component was 8.39%.
We continue to expect lower returns from long-term
fixed income investments for the foreseeable fu-ture.
Chart 19
Top Five Corporate & Govt. Holdings
in LTIP as of June 30, 1999
Issuer Market Value
NationsBank (Bank of Amer.) 248,928,758
Ford Motor Co. (& Credit Co.) 247,099,610
Bristol Myers 235,641,030
Texaco 229,934,751
Johnson & Johnson 229,518,309
UST 8.125 8/15/19 729,971,584
UST 7.875 2/15/21 727,026,199
UST 8.50 2/15/20 719,855,521
UST 7.25 8/15/22 694,207,800
UST 8.75 11/15/08 636,069,368
Chart 20
Distribution by Quality Rating
as of June 30, 1999
AAA 64%
AA 19%
A 17%
Chart 21
Maturity Range Distribution
as of June 30, 1999
0 — 5 years 1%
5 —10 years 29%
10 —20 years 8%
20 —30 years 58%
30 + years 4%
Chart 22
Monthly Returns vs. Benchmark
For Fiscal Year ended June 30, 1999
LTIP Benchmark
July (0.19)% (0.15)%
August 1.95% 1.92%
September 3.30% 3.37%
October (1.06)% (1.27)%
November 1.08% 1.29%
December 0.50% 0.37%
January 0.80% 0.87%
February (3.20)% (3.51)%
March 0.34% 0.41%
April 0.24% 0.26%
May (1.63)% (1.59)%
June (0.91)% (0.76)%
24
Real Estate Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Data as of June 30, 1999
Invested Assets: $766,300,000
Benchmark: National Council of Real Estate
Investment Fiduciaries (NCREIF)
Management: Eight investment firms managing
15 separate trusts
Inception: 1984
PORTFOLIO DESCRIPTION
The objective of the Real Estate Investment
Portfolio (REIP) is to provide long-term growth of
capital while observing the requirements of applica-ble
State law and the principles of prudent invest-ment
management. The REIP is expected to
generate a “total return” which will equal or exceed
that of NCREIF over a trailing 36-month time pe-riod.
This portfolio represents approximately 1.5% of
the assets of the various North Carolina Retirement
Systems. Growth of capital will be accomplished by
investing and reinvesting a stable flow of current
income into the real estate asset class. Positive real
rates of return during periods of rising or high infla-tion,
along with a degree of additional diversifica-tion,
are the goals of this portfolio.
The REIP is constructed to offer both high cur-rent
income and price appreciation. The portfolio
has a varied mix of funds that it utilizes to accom-plish
this objective. Core portfolios are utilized to
provide the base returns for the REIP. It is expected
that these portfolios will generate income levels that
will grow as property rents are increased and offer
the opportunity for price appreciation as well. The
REIP also utilizes opportunistic funds which take
advantage of pricing anomalies in the market place.
These portfolios typically hold their investments for
shorter periods of time and incorporate the use of
moderate leverage to achieve higher rates of return.
RISK PROFILE
The REIP is utilized as a means of offering solid
returns in periods of higher inflation while possess-ing
a lower correlation to the fixed income and eq-uity
assets found in the total pension portfolio.
Within the REIP, the portfolio is balanced between
core holdings and opportunistic funds.
The core positions offer a stable cash flow com-ponent
while the opportunistic portfolios attempt to
capture significant price appreciation through fi-nancial
leverage, capital improvements, and other
forms of very active management.
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the REIP held the highest
concentration of its assets in opportunistic real es-tate.
The portfolio held the next highest concentra-tion
in core real estate.
The State Treasurer sets the broad real estate
policy and utilizes professional external managers to
carry out the mandates. At June 30, the REIP em-ployed
eight management firms that currently man-age
15 different portfolios. Obviously, some of these
firms manage multiple portfolios for the REIP.
The following table reflects the management
firms utilized, the amount of assets, the number of
portfolios and the types of portfolios managed for the
REIP.
As of June 30, 1999
Total
Assets # of
Firm ($ in millions) Port. Type
Allegis $190.9 2 Participating-
Mortgage
Core
Cigna 78.4 1 Core
DLJ 25.0 1 Opportunistic
Lend Lease 104.1 3 Opportunistic
J.P. Morgan 92.0 1 Core
Sentinel 114.5 2 Multi-Family
Opportunistic
Wachovia 22.2 2 Development
Timber
Westbrook 98.8 3 Opportunistic
25
Chart 23
Portfolio Characteristics
Diversification by Real Estate Type
as of June 30, 1999
Market Value $766,300,000
PERFORMANCE SUMMARY
The REIP outperformed the NCREIF bench-mark
for Fiscal Year 1999, posting a 12.96% total
return versus a 12.50% return for the benchmark.
On a trailing three-year time period, the REIP has
outperformed the NCREIF by generating a 15.32%
total return versus 13.57% for the benchmark. In
terms of what contributed to the performance of the
REIP, strong performance by the opportunistic sec-tor
helped the total portfolio exceed its objective. The
total portfolio held a large position in the office
property sector. This has been a contributing factor
to the positive performance of the portfolio since this
property type has consistently outperformed the real
estate market in general. Retail was under-weighted
versus NCREIF. Given that retail pro-duced
the lowest returns in the benchmark, this al-location
decision was positive for the REIP. The
REIP had significant exposure in both the western
and eastern portion of the U.S. and this served to
enhance returns since these were the two best per-forming
geographic regions in the country.
Chart 24
Real Estate Investment Portfolio
Total Returns
as of June 30, 1999
12.9612.50
15.57
14.89 15.32
13.57
8
10
12
14
16
1-Yr. 2-Yrs. 3-Yrs.
REIP NCREIF
Participating
Mtg.
20.0%
Core
26.8%
Multi-Family
14.1%
Timber
2.8% Development
.1%
Opportunistic
29.2%
STIP
7.0%
26
Venture Capital Investment Portfolio
Performance Review
Fiscal Year Ended June 30, 1999
Data of June 30, 1999
Invested Assets: $75,720,000
Benchmark: The S&P 500 Index is the
benchmark used for comparison
purposes
Management: Ten firms utilized for the man-agement
of 14 venture capital
and buyout portfolios
Inception: 1988
PORTFOLIO DESCRIPTION
The objective of the Venture Capital Investment
Portfolio (VCIP) is to provide, over a period of time
(seven-to-ten years), a source of potentially high re-alized
income for the retirement system assets. (The
1990 Short Session of the General Assembly
changed the governing statutes, which had re-stricted
these investments to the General and
Highway Funds, on a retroactive basis.) This portfo-lio
represents approximately .1% of the assets of the
various North Carolina Retirement Systems. The
risk is controlled by diversification in industry type,
stage of corporate development and geographic loca-tion.
The VCIP’s objective of generating high amounts
of realized income over a seven-to-ten year period
requires that the portfolio be constructed so that a
balance between stage of company development and
industry type is maintained. The portfolio uses a
combination of early stage, later stage and buyout
funds. The early stage funds take a longer period of
time to produce returns, but normally provide very
strong returns as a result of investments being made
in companies very early in their corporate life. To
provide returns in the interim, the portfolio invests
in later stage and buyout funds that will generally
contribute returns sooner than the early stage
funds. It is anticipated that these later stage funds
will sacrifice some long-term potential in return for
quicker recognition of gains. The portfolio also seeks
to diversify across industry sectors.
Given the long-term time horizon of these in-vestments,
sectors can fall in and out of favor during
an investment cycle, so diversification is important.
Finally, the portfolio seeks to diversify as to geo-graphic
location. There are several areas across the
country well-renowned for the success of venture
capital companies and the portfolio obviously wants
to participate. Also, the portfolio seeks to identify
those areas which may be on the verge of breaking
through in terms of successful venture capital per-formance,
such as the southeast United States.
Lastly, the portfolio has some exposure to interna-tional
venture capital and buyout activity. With
markets becoming more and more global, opportuni-ties
exist to reap substantial returns from overseas
investments.
RISK PROFILE
Venture capital investing is by its nature a
higher risk asset class. Investing in new companies
or new technologies can pose the risk of losing all of
the principal investment, yet at the same time the
potential for returns substantially higher than those
of other asset classes justifies exposure in the asset
class.
With the risk of the asset class acknowledged,
the portfolio is structured with certain risk controls
utilized. For example, efforts are made not to over-weight
any one particular industry sector or geo-graphic
location. Professional managers utilized for
this program are scrutinized to determine that ca-pabilities
are in place to identify good investments
leading to strong returns. Finally, investments are
balanced between stage of development in order to
achieve a consistent realized income stream, rather
than sporadic periods of high-income generation.
27
PORTFOLIO CHARACTERISTICS
At June 30, 1999, the VCIP held most of its
partnership assets in vintage 1989 portfolios.
Nineteen eighty nine marked the first full year that
the pension fund began making venture capital in-vestments.
As time has progressed, the portfolio
continues to add new vintage year portfolios in order
to replace those partnerships which will soon termi-nate
as provided in the original contracts. The port-folio
also holds the highest percentage of its
partnership assets in early stage partnerships. In
theory, these partnerships should produce the high-est
returns. The portfolio has balanced the early
stage program with investments in later stage and
buyout funds.
Chart 25
Vintage Year
Diversification as of June 30, 1999
Market Value $75,720,000
Chart 26
Partnership Portfolio
by Stage of Development
as of June 30, 1999
Chart 27
Partnership Portfolio
By Location of Partnership
as of June 30, 1999
The VCIP has almost two-thirds of its invest-ments
committed to North Carolina partnerships.
While the return potential for these investments is
high, the portfolio has balanced this with a third of
the investments in funds located outside of the
State.
The State Treasurer sets the broad venture capi-tal
policy and utilizes external professional manag-ers
to carry out the mandates. At June 30, the VCIP
employed ten management firms that manage a to-tal
of 14 different portfolios. Obviously, several of
these firms manage multiple portfolios for the VCIP.
The following table reflects the management
firms utilized, the size of the assets, the number of
portfolios, and the types of portfolios managed for
the VCIP.
Total
Assets # of
Firm ($ in millions) Port. Type
Carolinas $ .08 1 Early Stage
Capital
DLJ Merchant 3.17 1 Buyout
Franklin- 2.46 1 Buyout
Fairview
HarbourVest 2.10 1 Later Stage
InterSouth 1.64 2 Early Stage
Kitty Hawk 1.40 2 Early Stage
Early
74%
Buyout
15%
Later
11%
N.C.
68%
Non-N.C.
32%
1989
1997 61%
15%
1986
11%
1994
6%
1993
5%
1988
2%
28
Southern Venture .19 1 Early Stage
Sprout Capital 6.42 2 Early Stage
Later Stage
The N.C. 15.97 2 Early Stage
Enterprise
Corp.
Venture First 3.71 1 Early Stage
PERFORMANCE SUMMARY
The VCIP recorded a total return of 26. 76% for
Fiscal Year 1999. This compares with 22.67% for
the S&P 500. Venture capital investments depend
quite heavily on a buoyant IPO market. Fiscal year
1999 saw the second highest level of distributions
since the portfolio’s inception in 1989. Several stock
distributions that were held by the portfolio appr e-ciated
significantly in value. These companies oper-ate
in the communications services industry and
this was a very strong performing sector during FY
99.
It is also important to note that the returns for
the VCIP include not only investments made in
1988, but investments made in 1997. Historically, it
takes about six years to begin to see solid perform-ance
of a venture capital partnership. By combining
partnerships that are relatively new (i.e. going
through the “J curve” effect) with those that have
been in existence for some time, the returns are
somewhat diluted.
Chart 28
Venture Capital Investment Portfolio
Total Return
as of June 30, 1999
Supplemental Income Results
In addition to the traditional sources of income
from the investment pool, there is supplemental in-come
resulting from further active management of
the investment assets. For the fiscal year ended
June 30, 1999, supplemental income amounted to
more than $23 million. This income was five times
the actual operating expenditures of the Investment
and Banking Division, which were $4,598,801. The
largest component of the supplemental income ef-forts
is securities lending, which has generated net
earnings of $120.5 million since its inception in
1979.
The securities lending component is adminis-tered
by The Bank of New York under stringent re-quirements
established by the State Treasurer. All
securities are collateralized at 102%, with the in-vestment
of cash collateral being limited to the same
securities which are authorized for investment by
the Short-term Investment Portfolio.
The Bank of New York provides 100% indemni-fication
to the State Treasurer in the case of bor-rower
default.
Shown below are the sources and monetary re-sults:
Chart 29
Participating Investment Portfolios
Source Short- Long-of
Income Term Term Totals
Securities
Lending $11,473,783 $11,391,840 $22,865,623
Fail Balance
Earnings 4,147 172,186 176,333
TOTALS: $11,477,930 $11,564,026 $23,041,956
26.76
22.67
19.6
26.35
16.42
29.06
8.46
19.21
0
5
10
15
20
25
30
1 - Y r . 2 - Y r . 3 - Y r . I T D
VCIP S & P 5 0 0
29
State and
Local Government
Finance Division
The State and Local Government Finance Divi-sion
is organized to provide the State Treasurer, the
Local Government Commission, the North Carolina
Solid Waste Management Capital Projects Financ-ing
Agency, and the North Carolina Educational Fa-cilities
Finance Agency with staff assistance in
fulfilling their respective statutory functions. The
Division is organized along functional lines into two
major groups of services: Debt Management and
Fiscal Management.
The Local Government Commission (LGC) ren-ders
assistance to local governments and public
authorities in North Carolina. The LGC, staffed by
the Department of State Treasurer, approves the
issuance of debt for all units of local government and
assists these units with fiscal management. The
Commission is composed of nine members: the State
Treasurer, the Secretary of State, the State Auditor,
the Secretary of Revenue, and five others by ap-pointment
(three by the Governor, one by the Gen-eral
Assembly upon the recommendation of the
President-Pro Tempore and one by the General As-sembly
upon the recommendation of the Speaker of
the House.) The State Treasurer serves as Chairman
and selects the Secretary of the Commission, who
heads the administrative staff serving the Commis-sion.
The North Carolina Solid Waste Management
Capital Projects Financing Agency provides a loan
fund for financing the capital expenses incurred in
implementing local and regional solid waste man-agement
programs. The Agency Board of Directors
consists of five members: the State Treasurer and
four others by appointment (two by the Governor
and two by the General Assembly upon the recom-mendation
of one each by the Speaker of the House
of Representatives and the President Pro Tempore of
the Senate). Administrative staff for the Agency is
provided by the Department of State Treasurer.
Private institutions of higher education receive
financing assistance through bonds issued by the
North Carolina Educational Facilities Finance
Agency. The Agency Board of Directors is composed
of seven members: the State Treasurer, the State
Auditor, and five others by appointment (three by
the Governor, one by the President of the Senate
and one by the Speaker of the House of Representa-tives).
The administrative staff for the Agency is
provided by the Department of State Treasurer.
The Division handles the sale and delivery of all
State and local debt and monitors the repayment of
State and local government debt.
Solid Waste
Management Capital
Projects Financing
Agency
Local Government Robert M. High
Commission Director
North Carolina
Educational
Facilities Finance
Agency
Debt Fiscal
Management Management
Operational Highlights
• Competitive tax-exempt general obligation
bonds for the State were sold totaling $450 mil-lion
for the third series of school bonds (ap-proved
by the voters of the State in November
1996), at a net interest cost 50 basis points be-low
the national Bond Buyer’s Index, resulting
in interest savings in excess of $26 million over
the life of these bonds. The State also sold
$25.905 million clean water refunding bonds,
which resulted in savings to 22 local govern-ments
in excess of $1.5 million over the life of
the loans made from the proceeds of the bonds
refunded.
• The State continued to retain its excellent
bond rating of “Triple-A,” one of only nine
states in the nation with this coveted rating
from all three national rating agencies.
• Competitive tax-exempt general obligation
bond sales for local governments exceeded
$815 million with rates averaging 70 basis
points under the national Bond Buyer’s Index,
which resulted in savings in excess of $43 mil-lion
over the life of these bonds.
• Bonds totaling over $191 million were ap-proved
and sold for the North Carolina Hous-ing
Finance Agency, thus increasing the
supply of affordable housing for North Caro-linians
of moderate and low income.
• Industrial revenue bonds were issued total-ing
over $146 million resulting in the creation
of 1,011 jobs and the saving of 922 jobs.
30
• The staff made instructional presentations
at approximately 40 continuing education
courses and conferences across the State.
• Informational memoranda on various top-ics
were prepared for units of government,
Certified Public Accountants, and elected offi-cials.
• Again this year, the staff prepared the Fis-cal
Summary of North Carolina Counties and
the Fiscal Summary of North Carolina Munici-palities
in cooperation with the North Caro-lina
Association of County Commissioners and
the North Carolina League of Municipalities,
respectively. The purpose of these publica-tions
is to provide comparative financial in-formation
to county and municipal officials for
their use in budgeting and in comparing their
own unit’s financial results to those of other
units.
• Fifty-five local governments received low
interest rate clean water revolving loans and
state bond loans totaling over $96 million for
the construction of water and sewer systems.
• Installment purchase contracts were sold
for over $436 million, typically for smaller pro-jects.
• Revenue bonds for over $433 million were
sold for local governments, mainly for hospi-tals,
airports and water and sewer projects.
• Over $1.1 billion in hospital revenue bonds
was sold for the North Carolina Medical Care
Commission.
• Over $66 million was provided to nonprofit
private institutions of higher education
through nine bond issues by the North Caro-lina
Educational Facilities Finance Agency.
• The staff reviewed single audit reports for
approximately 455 units of local government
because of the requirements of the Federal
and State Single Audit Acts. Approximately
255 yellow book audits were reviewed by the
staff.
• The tenth annual “State Treasurer’s Gov-ernmental
Accounting/Financial Management
Awards Program” was sponsored. Municipali-ties,
counties, boards of education, and miscel-laneous
districts and authorities are eligible to
receive awards. Winners were governmental
units demonstrating the most improvement in
accounting or financial management pro-grams,
systems, methods, and procedures.
The State of Tax-Exempt Financing
As one of the few remaining tax shelters, gov-ernmental
bonds continue to be an attractive means
of financing for local governments. Without tax-exempt
financing, the interest rates charged on bor-rowed
funds could increase from 1 to 3 percentage
points resulting in a 20 to 30 percent increase in the
cost of financing. Utility customers and taxpayers
would ultimately pay this increase.
Market conditions were favorable for tax-exempt
debt during the fiscal year. The Bond Buyer’s Index
of 20 General Obligation Bonds ranged from a low of
4.82% on October 1, 1998 to a high of 5.45% on June
24, 1999. During the fiscal year, many local gov-ernments
took advantage of the lower rates to re-fund
outstanding debt. This fiscal year, 16
competitive tax-exempt general obligation and 11
revenue bond refundings were completed for local
governments, which resulted in over $56 million of
savings to local government taxpayers.
The Basic Functions
Debt Management
The Division issues and monitors all State debt
secured by a pledge of the taxing power of the State.
After voter approval of a bond issue and with the
assistance of other State agencies, the Division de-termines
the cash needs, plans for the repayment of
debt (maturity schedules), and schedules bond sales
at the most appropriate time. An official statement
describing the bond issue and other required disclo-sures
about the State is prepared with the advice
and cooperation of bond counsel. Finally, the Divi-sion
handles the actual sale and delivery of the
bonds, maintains the State bond records and regis-ter
of bonds, and monitors the debt service pay-ments.
At June 30, 1999, the State had general
obligation bonds outstanding of $2.4 billion. (See
Tables 8 and 9.)
The Division also is responsible for the authori-zation
and sale of revenue bonds for the North
Carolina Medical Care Commission, the Municipal
Power Agencies, the North Carolina Educational
Facilities Finance Agency, the North Carolina
Housing Finance Agency, the North Carolina Solid
Waste Management Capital Projects Financing
Agency, and the North Carolina Industrial Facilities
and Pollution Control Financing Authority. Only the
specific revenues pledged in payment thereof secure
31
these bonds. The staff works with these agencies’
personnel in determining the feasibility and sched-uling
of the bond offering, in structuring the issue
and the underlying security documents, and in pr e-paring
the data that must be presented to the Local
Government Commission for its approval.
The Division assists the State Treasurer in rep-resenting
the State in all presentations to Moody’s
Investors Service, Inc.; Standard and Poor’s Corpo-ration;
and Fitch Investors Service, Inc., the three
national bond rating agencies used by the State and
local governmental units in North Carolina. The
State continues to have a “Triple-A” rating, the
highest rating attainable, from all three national
rating agencies. This favorable rating has enabled
the State to sell its bonds at an interest rate consid-erably
below the Bond Buyer’s Index, thereby pr o-viding
tremendous savings to North Carolina’s
taxpayers.
Another important function of the Division is the
approval, sale, and delivery of all North Carolina
local government bonds and notes. The Division staff
counsels and assists local governmental units in de-termining
the necessity of the project, the size of the
issue, and the most expedient form of financing. A
review is made of the debt management policies of
the unit, the effect of the financing on the tax rate,
and the unit’s compliance with The Local Govern-ment
Budget and Fiscal Control Act. Sale dates are
scheduled depending on the need for the money, the
anticipated interest rates, and the times when the
bonds can be sold with a minimum of competition.
The staff strives to resolve all problems and deter-mine
that all statutory requirements are met before
applications are presented to the Local Government
Commission for approval.
After approval is granted, the governmental unit
and its bond counsel assist the staff in gathering
and assembling information for an official state-ment,
which is mailed to a large group of investment
bankers nationwide. The general obligation bonds
are awarded through the competitive bid process on
the basis of lowest total net interest cost to the gov-ernmental
unit. After the sale, the staff delivers and
validates the definitive bonds and ensures that the
moneys are promptly transferred from the buying
brokers to the governmental unit.
In addition to bond sales, the staff assists the
units in selling certain short-term debt obligations.
These may be bond anticipation notes to provide in-terim
funding of projects until the definitive bonds
are sold, or they may be other notes secured by spe-cific
pledges of taxes, grants, or future revenues.
Authorization for short-term debt obligations also is
based upon Local Government Commission ap-proval.
Debt records are maintained for all units on
principal and interest payments coming due in the
current and future years. All debt service payments
are monitored through a system of monthly reports.
At June 30, 1999, authorized and unissued gen-eral
obligation bonds for local governments
amounted to over $1.7 billion; and general obligation
debt outstanding amounted to over $6.6 billion. (See
Table 8.) During the 1998-99 fiscal year, bonds and
notes were sold in the amount of $1,454,486,493.
(See Chart 30.) Of the $862,986,000 in general obli-gation
bonds marketed for local units, over $815
million were sold competitively at tax-exempt rates
averaging approximately 70 basis points below the
national average (according to the Bond Buyer’s In-dex).
Over the life of these bonds, the issuers are
expected to save in excess of $43 million in interest
costs. Such savings are a result, in part, of the Divi-sion’s
successful efforts in maintaining and upgrad-ing
the bond ratings of the State and local units and
in monitoring the fiscal soundness of the individual
local units.
The Division’s staff also assists in the sale of
revenue bonds, which must have the Commission’s
approval in order to be issued by municipalities,
joint municipal electric power agencies, and county
industrial facilities and pollution control financing
authorities. These bonds are secured only by specific
revenue pledged in payment of the bonds. (See
Charts 30 and 31.)
Another responsibility of the Division’s staff is
assisting units that desire to enter into agreements
to finance the lease or installment purchase of capi-tal
assets. Local Government Commission approval
is required when the contract or agreement extends
for five or more years; and obligates the unit to pay
sums of money to another, without regard to
whether the payee is a party to the contract; and
obligates the unit to the extent of $500,000 or a sum
equal to one tenth of one percent (1/10 of 1%) of the
appraised value of property subject to taxation by
the unit, whichever is less. Local Government Com-mission
approval also is required when the contract
or agreement involves the construction or repair of
fixtures or improvements on real property and it is
not exempted in G.S. 159-148(b).
Before approving such agreements, the Local
Government Commission must find that the pr o-posed
project is necessary and expedient, the pr o-posed
undertaking cannot be economically financed
by a bond issue, and the contract will not require an
excessive increase in taxes. During the fiscal year
ended June 30, 1999, the Local Government Com-mission
approved contracts or other agreements to-taling
over $437 million. (See Tables 6 and 7.)
32
The Division also serves as staff to the North
Carolina Educational Facilities Finance Agency, an
agency established by the General Assembly in 1986
and authorized to finance or refinance, construct,
provide, or acquire higher educational facilities. This
Agency affords private institutions of higher educa-tion
in the State a measure of assistance and an al-ternative
method for providing needed facilities and
structures.
Following initial contact from a col-lege/
university, the staff generally begins the proc-ess
of determining project feasibility and desirability
with a preliminary conference. Upon receipt of an
application, the financial capability and responsibil-ity
of the college/university is reviewed through ratio
and trend analysis. The staff presents the project
and its recommendations to the seven-member
North Carolina Educational Facilities Finance
Agency and subsequently to the Local Government
Commission for approval. (All debt issued by the
Agency also must be approved by the Local Govern-ment
Commission.)
Chart 30
Purposes For Which Local Governments
Sold Bonds and Notes
Fiscal Year 1998-99
Total
School Utilities Hospital Refunding Other No. Amount
G.O. Bonds
Counties ............................... $ 124,705,000 $ 7,053,000 $ 0 $ 88,530,000 $ 10,930,000 28 $ 231,218,000
Municipalities....................... 0 151,025,000 0 285,065,000 155,615,000 21 591,705,000
Districts and Authorities ...... 0 40,063,000 0 0 0 19 40,063,000
Total G.O. Bonds ............ 124,705,000 198,141,000 0 373,595,000 166,545,000 68 862,986,000
Revenue Bonds
Counties ............................... 0 17,489,000 183,900,000 85,620,000 7,500,000 6 294,509,000
Municipalities....................... 0 51,833,000 0 0 0 6 51,833,000
Districts and Authorities ...... 0 51,398,000 18,700,000 6,655,000 10,000,000 7 86,753,000
Total Revenue Bonds ...... 0 120,720,000 202,600,000 92,275,000 17,500,000 19 433,095,000
Special Obligation Bonds —
Solid Waste
Counties ............................... 0 2,800,000 0 0 0 1 2,800,000
Municipalities....................... 0 0 0 0 0 0 0
Total Special Obligation
Bonds ............................ 0 2,800,000 0 0 0 1 2,800,000
State Bond and Revolving Loans
Counties ............................... 0 14,931,786 0 0 0 10 14,931,786
Municipalities....................... 0 66,350,788 0 0 0 35 66,350,788
Districts................................ 0 14,963,419 0 0 0 10 14,963,419
Total State Bond and
Revolving Loans ............. 0 96,245,993 0 0 0 55 96,245,993
Notes
G.O. Bond Anticipation Notes 0 53,963,500 0 0 4,000,000 29 57,963,500
Revenue Notes...................... 0 1,396,000 0 0 0 1 1,396,000
Total............................... 0 55,359,500 0 0 4,000,000 30 59,359,500
Total Bonds and Notes.......... $ 124,705,000 $ 473,266,493 $ 202,600,000 $ 465,870,000 $ 188,045,000 173 $ 1,454,486,493
34
Chart 31
Debt Management Activities - State and Local (In Millions)
FY 1998-99 FY 1997-98 FY 1996-97
No. Amt. No. Amt. No. Amt.
Bonds Sold for State
G.O. Bonds (General Fund) ................................... 1 $ 450.0 1 $ 450.0 2 $ 645.0
G.O. Bonds (Highway Fund) .................................. 0 0 1 250.0 0 0.0
G.O. Bonds (Clean Water)..................................... 1 25.9 0 0.0 0 0.0
Total .............................................................. 2 475.9 2 700.0 2 645.0
Bonds and Notes Sold for Local Governmental Units:
G.O. Bonds.......................................................... 68 863.0 73 1,206.9 65 558.2
Revenue Bonds.................................................... 19 433.1 22 592.7 18 635.0
State Bond and Revolving Loans ............................ 55 96.2 22 39.0 16 29.8
Special Obligation Bonds — Solid Waste ................. 1 2.8 6 38.8 3 24.0
G.O. Notes .......................................................... 29 58.0 48 104.9 44 99.5
Revenue Notes..................................................... 1 1.4 4 7.4 1 3.0
Total .............................................................. 173 1,454.5 175 1,989.7 147 1,349.5
Installment/Lease Contracts Sold for Local Units: ...... 110 436.1 86 342.3 122 368.9
Revenue Bonds Sold for:
Medical Care Commission ..................................... 22 1,139.1 18 551.9 14 602.1
Housing Finance Agency....................................... 4 191.8 5 208.9 4 166.5
Power Agencies.................................................... 1 279.2 3 267.1 3 584.3
Industrial Facilities and Pollution Control
Financing Authorities ......................................... 29 146.1 44 179.9 26 165.0
Educational Facilities Finance Agency .................... 9 66.2 7 104.1 7 124.2
Total .............................................................. 65 1,822.4 77 1,311.9 54 1,642.1
Grand Total .......................................................... 350 $4,188.9 340 $4,343.9 325 $4,005.5
35
Fiscal Management
Another function of the Division involves moni-toring
certain fiscal and accounting standards pr e-scribed
for local governmental units by The Local
Government Budget and Fiscal Control Act. As a
part of its role in assisting local units and monitor-ing
their fiscal programs, the Division provides
guidance in following generally accepted accounting
principles. The Local Government Budget and Fiscal
Control Act requires each unit of local government
to have its accounts audited annually by a Certified
Public Accountant or by an accountant certified by
the Commission as qualified to audit local govern-ment
accounts. If a governmental unit is required to
have an audit performed in accordance with Gov-ernment
Auditing Standards, the auditor is required
to provide the unit and the Local Government Com-mission
with a copy of the audit firm’s most recent
peer review report prior to contracting for the audit.
Each local government is required to file a copy of its
annual audit report with the Division and submit all
invoices to the Division for approval. The Division
monitors the annual audit reports for compliance
with generally accepted accounting principles and
single audit disclosure requirements. Also, a de-tailed
analysis is made of the financial condition of
each unit. In analyzing a unit’s financial condition,
staff members look not only at financial ratios and
budgetary indicators, but also at possible trends
that may be early warning signs of potential finan-cial
difficulties. Problems or concerns are brought to
the attention of the governmental units and, if
problems persist or become more serious, unit visits
are made by staff members in order to provide
hands-on technical assistance.
In providing assistance to local governments,
units are counseled in accounting systems and in-ternal
controls, cash and investment management,
budget preparation, risk management, capital plan-ning,
and changes in laws and regulations. Staff
members also perform research and provide techni-cal
assistance to local governments with specific
questions in these areas. On-site assistance is fur-nished
to local governments with regard to financial
and accounting systems and management services.
Educational programs, in the form of seminars and
classes, also are provided in order to accomplish
these tasks. Staff members make presentations
throughout the year at various workshops sponsored
by the Institute of Government; the North Carolina
Government Finance Officers Association; the North
Carolina Association of County Finance Officers; the
Association of Government Accountants; the N.C.
Local Government Investment Association; and nu-merous
other county, municipal, and school organi-zations.
The Division has expanded its assistance role by
maintaining computerized databases of historical
information from local government audit reports,
city and county Annual Financial Information Re-ports,
and Reports of Deposits and Investments. The
information collected is used in a variety of ways to
automate operations and enhance the assistance
provided to local governments. The files also are
utilized in special projects that benefit the opera-tions
of the State. Upon request, data is provided to
such organizations as the U.S. Bureau of the Cen-sus,
the N.C. Department of Revenue, the General
Assembly, the N.C. League of Municipalities, the
Institute of Government, and the N.C. Association of
County Commissioners to assist these groups in
their activities.
Because of recent changes in the field of gov-ernmental
accounting and the enactment of the
Federal Single Audit Act and the State Single Audit
Act, continuing assistance is provided to the inde-pendent
auditors of local governments, particularly
in the area of professional education. Several mem-bers
of the staff serve on the Governmental Ac-counting
and Auditing Committee of the North
Carolina Association of Certified Public Accountants
(NCACPA). The staff helps prepare and instruct
several continuing professional education courses in
governmental accounting and auditing. These are
presented several times annually to independent
auditors through the auspices of the NCACPA. Staff
members provide additional assistance to indepen d-ent
auditors by researching their questions con-cerning
governmental accounting, auditing, and
budgeting, as well as North Carolina laws. In addi-tion,
all exposure drafts of the Governmental Ac-counting
Standards Board (GASB) are analyzed, and
the staff’s comments and recommendations on these
drafts are submitted to the GASB.
Significant Accomplishments
Debt Management
North Carolina General Obligation Bonds —
In 1998-99, the State sold the third series of the $1.8
billion school bonds (approved by the voters of the
State in November 1996) in the amount of $450 mil-lion
at a net interest cost of 4.6101%, 50 basis points
below the national Bond Buyer’s Index, resulting in
interest savings in excess of $26 million. The State
also sold $25.905 million clean water refunding
36
bonds in 1998-99 for the purpose of refunding the
State’s outstanding $24 million Clean Water Bonds,
Series 1994A. The proceeds of the 1994A Clean Wa-ter
Bonds have been loaned by the State to local
governmental units to pay costs of various projects.
The refunding resulted in savings to the 22 local
governmental units in excess of $1.5 million over the
life of these loans.
In November 1998, the voters of the State ap-proved
$800 million in clean water bonds for the
purpose of funding several programs to provide
loans and grants to units of local government to fi-nance
clean water projects and $200 million natural
gas bonds for providing financing for the construc-tion
of natural gas facilities to facilitate the expan-sion
of natural gas service to unserved areas of the
State. The State’s authorized and unissued general
obligation bonds at June 30, 1999 totaled $2.15 bil-lion.
(See Table 8.)
Installment and Lease Purchase Agreements —
The installment and lease purchase method of fi-nancing
continues to be used by local governments,
typicall